The Myth of the Central Bank ‘Soft Landing’

Most tightening cycles historically ended in recessions. Whether this shows the power or powerlessness of central banks, it isn’t good news

 

By Jon Sindreu of The WSJ. Excerpts: 

"Of the Fed’s previous 12 big tightening cycles since the 1950s, nine ended with a recession, official figures show. Among the exceptions, rates rose consistently between 1961 and 1966 without any downturn, but inflation eased only temporarily and recession eventually struck in 1970."

"The BOE has a better record, but roughly half of its rate-increase campaigns since the 1950s still ended with a U.K. recession."

"central bankers don’t seem to have a consistent theory on how they are supposed to micromanage inflation. Modern views are more conducive to the optimistic idea that the economy can be slowed in a “nominal” sense without affecting employment or inflation-adjusted wages. They often focus on how steering the psychology of inflation expectations can restrain price setting in the present. But this has weak backing in data."

"If monetary policy does work, then something needs to give—be it weaker credit growth, lower asset prices or a gloomier business climate. That this can happen without affecting anyone’s “real” material conditions is wishful textbook thinking.

To be sure, the power of interest rates over unemployment shouldn’t be overestimated either. Yes, there is a historical coincidence between monetary and business cycles, but this is only natural: Officials tend to raise rates as economies flourish, only to stop when a downturn ensues. The mid-1990s experience is a rare case of monetary tightening without a tightening economy, and the impact was limited."