Enacting the Temporality of Monetary Walrasianism: How Expectations-Based Monetary Policy and Has Become Locked into Its Model Worlds

Thursday, 2 July 2015: 10:15 AM-11:45 AM
TW2.1.03 (Tower Two)
Timo Walter, Institut de Hautes Etudes Internationales et du Développement, Geneva, Switzerland
From its beginnings in experiments by relatively minor central banks such as in New Zealand and Canada, the logic, if not the name of inflation targeting (Bernanke and Mishkin 1997) has become the state-of-the-art of central banking. This rules-based, allegedly more „scientific“ approach is predicated on the management of macro-economic expectations, with technical means-ends interventions becoming subordinate instruments in this process of shaping the formation of expectations in financial markets (and the economy more widely) (Kydland and Prescott 1977; Barro and Gordon 1983; Barro and Gordon 1983).

Contrary to the conventional wisdom that prevailed well into the 1990s, of actively cultivating the secrecy shrouding a more discretionary monetary policy so as to prevent the predictability of central bank decisions (Goodfriend 1986), transparency is now seen as a necessary precondition for anchoring expectations, and thus successful inflation targeting (Cukierman 1992). Central banks actively monitor the „market sentiment“, and try to shape the picture painted of them in the financial media as a crucial factor in creating the „reality“ and meaning of their monetary policy actions. Press conferences as well as semi-official statements by board members are closely monitored by financial markets and strategically employed by central banks, the contours of the technical simulation models disclosed to the financial public, and technical measures explained in detail with regard to what effect they are supposed to have on market expectations. It thus seems fair to say that central banks are actively and deliberately engaged in attempting to persuade financial markets, to socialize them into a particular imaginary of how the economy works.

Open-mouth operations (Guthrie and Wright 2000) or the “economy of words” (Holmes 2014; Abolafia 2004; Hall 2008; Smart 1999) have increasingly become a topic among both economists and social scientists studying central banking and the financial system. However, the study of this world-making so far has paid little, if any, attention to the properties of the world(s) jointly being made, and in particular the question of how this world is shaped by the economic models on which „definitional practices“ (Smith 2007) converge. In this paper, I show how central banks and financial markets „tailor“ (Hacking 1992) their jointly constructed macroeconomic world to the „world in the model“ (Morgan 2012) of contemporary monetary macroeconomics. I also demonstrate how expectations management by following the logic of this model world forces monetary policy into a self-referential mode and produces – ceteris paribus - a passive and accommodative monetary stance.

I do so by, first, contrasting the theoretical structure and resulting static temporality of the Rational Expectations Revolutions (RER) (Lucas 1972; Muth 1961; Sargent and Wallace 1976) and its intellectual child, Neo-Wicksellian monetary macroeconomics (Hoover 2009) with the more dynamic and open ontology of its Wicksellian, Swedish school theoretical forefather. Contrary to the dynamic, non-reversible temporality of the Swedish school (Lindahl 1950; Wicksell 1965) which allowed for a shift in the properties of and relations between macroeconomic „objects“, enacting „monetary Walrasianism“ (Mehrling 2011) produces a closure following the logic of the simultaneous temporality of RE-macroeconomics, in which present and present future (Luhmann 1976) must be aligned in order for monetary policy to work. This possibility of a „drift“ of economic ontology present in the ex-ante / ex-post reasoning of the Swedish school is actively expunged by the constant tailoring of the joint macroeconomic world by central banks' expectation management.

This new paradigm for central banking has locked central banks in a world of “signal communication” (Langenohl and Wetzel 2011) with financial markets in which a form of “hyperreal” (McGoun 1997) joint world-making (Goodman 1978) comes to overlay the economic transmission mechanism of the actual operative monetary policy interventions. The requirements of framing stable expectations necessary for successful inflation targeting prods central banking to narrowing down the expectational possibilities of its policies, by converging on the world in the model of modern macroeconomics. The constant calls for increased transparency (divulging the parameters of the simulation models used, even transcripts), market and media watching in order to be able to correct the signals sent, the growing fear of „disappointing“ the market (which would re-introduce uncertainty and ambiguity), and the emphasis of credibility (essentially meaning ensuring the purity of reaction functions, preventing non-economic factors from interfering with the central bank's following the logic of the macroeconomic world), testify to this gradual lock-in effect which prevents central banks themselves from from formulating or pursuing „deviant“ strategies not commensurate with the world in the theory.

This operative paradigm has generated a situation in which actual technical monetary interventions are increasingly neutralized by the need to confirm and sustain expectations and avoid (perceived) volatility of central banking strategy, as becoming most visible in the recent explicit articulation of a “forward guidance” paradigm of monetary policy. The very nature of this expectations-based transmission mechanism thus forces central banking into an effectively passive, accommodative stance that makes it exceedingly difficult to exert discipline over the markets (Mehrling 2011).

The co-performation (Callon 2007) of modern macroeconomics thus creates a situation in which the world as captured in the indicators and forecasts of monetary policy indeed comes to resemble the theoretical model more closely (A. S. Blinder 2000). However, monetary policy and central banking 'control' increasingly come to be locked into a virtual world jointly performed in expectations – a world which seems, in many respect, to become dissociated from actual technical and operative interventions a fact which has created some unease especially among central bankers brought up in the days of discretionary monetary policy (A. S. Blinder et al. 2008; A. Blinder 2004).