Back to the Future at the Minneapolis Fed

NK for NK: that was the story on January 1 at the Minneapolis Fed. Narayana Kocherlakota’s six-year term ended on December 31 and Neal Kashkari took charge on January 1. Kocherlakota shook up the institution at 90 Hennepin Avenue and I’ve been wondering in whether Kashkari would continue those changes or dial them back. The answer is now in: it’s back to the future at the Minneapolis Fed.

Gary Stern served as president for almost 25 years (1985 to 2009) and under his leadership the Minneapolis Fed was known for two things: research on the Too Big to Fail (TBTF) problem and a revolution in macroeconomics. These two subjects were connected. Monetary policy (i.e. using interest rate changes to affect economic activity) was ineffective (and, according to Nobel laureate Ed Prescott, irrelevant) in the new theoretical paradigms developed in the research department. Thus, the main focus of the Fed’s efforts should be on the financial intermediary functions of banks and other related institutions. Stern himself wrote a book on the (TBTF) problem and, in his speeches and other writings, focused on this topic with only short forays into monetary policy discussions.

Kocherlakota at first continued along this path, with his 2010 annual report essay emphasizing how little monetary policy could do to affect GDP and unemployment. But that started to change in 2010 and 2011, and by 2012 he publicly advocated policies that were anathema to economists steeped in the Minneapolis Fed’s research traditions.

The internal conflicts burst into public view in November 2013 when the Minneapolis Fed cut its ties with two economists long associated with the Department of Economics at the University of Minnesota.

I didn’t write it at the time, but my hunch was that this was a turning point: either Kocherlakota would continue to press forward and thoroughly clean house and continue to make the Minneapolis Fed look like and behave more like the other regional reserve banks. In particular, the creation of a regional outreach department and the Center for Indian Country Development signaled a commitment to deeper interaction with the region in which the Minneapolis Fed operates.

Kashkari, in his first public address as president, made clear that monetary policy was not his focus and that TBTF was back at the top of the bank’s agenda. We’ll have to wait to see what happens to Kocherlakota’s other efforts at reform, but my guess is that when Kashkari participates in Federal Open Market Committee meetings in Washington he will not be urging the aggressive policies of his predecessor.

Fortunately, Kocherlakota’s voice can still be heard. Since leaving Minneapolis he created a website and is actively participating in the debates over monetary policy. I’m glad that he’s decided to stay in the arena and to provide an example of what a Fed president can be if he has the intellectual courage to change his mind and to lead.

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