Fine-Tuning Probably Works Better on Pianos Than the Economy

The Federal Reserve has shifted course recently.  Previously, it indicated that interest rates would stay the same for a while (which was itself a change from indications last year that rates would going up this year).  Now, however, the Fed is signaling that, if the economy weakens because of “trade wars,” it might cut interest rates.

Some are calling this shift the “Powell put,” in memory of the “Greenspan put” in the 1990s/early 2000s, when then-Federal Reserve chairman Alan Greenspan cut interest rates, and kept them low, to try to keep the economy growing.  While Alan Greenspan’s low rates may have worked in the short run, some see those low rates as one of the factors causing the 2008 financial crisis.

Which raises the question: Would a Fed interest rate cut at this point be viewed as a result of changes in long-term market fundamentals?  Or would it be seen as a sign that the Fed is not going to let the economy, and the market, decline?  And could that be a signal to investors to take more risk because if things start to go bad, the Fed will bail them out?

If it is the latter, i.e., a bit of a “Powell put,” perhaps the best comment comes from something economic columnist Robert Samuelson wrote last month:

“The most intriguing and indisputable thing we have learned about economists in recent decades is that they don’t know nearly as much as they thought they knew.

Time after time, economists have failed to foresee major economic trends.  In recent years, global interest rates have plunged to historically low levels. … But most economists did not anticipate the declines and still can’t fully explain them. … 

Of course, the most conspicuous example of this ignorance gap is the 2008-2009 financial crisis and the Great Recession.  ‘Why did nobody notice it?’ Queen Elizabeth famously asked. …

What I think can be held against economists – not all, but many – is that they exaggerate what they know and how much they can influence the economy. … A little more humility might be in order.”

In this case, a little more humility might mean fewer efforts to fine-tune the economy.  Fine-turning works if you know what you are doing and if the thing being fine-tuned responds reliably to things being done to it.  Like a piano.  And perhaps not like an economy.

Which means that maybe it would be better if the Fed didn’t worry so much about making little bits of changes whenever things start shifting one way or the other.  Maybe they should just focus on getting the big things reasonably correct and then letting the economy, i.e., people doing their own thing within the market system, make the small adjustments.  It might mean things won’t be as good as they could be if the Fed, etc., got everything right all the time.  But it might also mean that things won’t get as messed as they sometimes do when the fine-tuning turns to __ [rhymes with “hit”).