Monday, June 15, 2009

San Francisco Fed: "This Recession Should Cause A Significant Decline In Core Inflation"

The San Fran Fed continues to voice a dissenting tone from the Ben Bernanke Inflation Party Line. Authors Weidner and Williams try to reconcile the lack of major deflationary pressure borne by significant unemployment. Their conclusion: the output gap is the likely variable, and could potentially be less then estimated by the CBO. The problem - baseline unemployment will flatline to a much higher level than previously expected. The authors cite a study by Laubach and Williams, which observes a much lower output gap than the CBO's (of course, both are likely wrong). Curiously a justification for that could be: "One possible explanation for the difference in output gaps is that core inflation has been temporarily boosted by factors other than the output gap and the Laubach and Williams model is in a sense “fooled” into thinking that the output gap is small."Maybe if the Fed hadn't drowned the market in 10x more liquidity than it could possibly absorb (with all of it stuck in oil barrels and none trickling down to the consumer), L&W wouldn't be fooling themselves. But who are we to criticize Ben Bernanke.

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