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Economist Larry Lindsey defends Trump’s likely Fed nominees

President Donald Trump has said he will nominate Steve Moore and Herman Cain to be members of the Board of Governors of the Federal Reserve system. Both have been criticized as being unqualified for not having Ph.D.’s in economics.

The truth of the matter is that former chair Paul Volcker also did not have a Ph.D., nor did William McChesney Martin or Marriner Eccles.

The latter two chairs of the board are ones for whom the Fed’s two big buildings in Washington, D.C. are named.

But even a board packed with Ph.D. economists does not guarantee a good record when it comes to economic forecasting. Such a board definitely did not see the Great Recession happening. At its meeting at the end of October 2007 the members forecast growth of between 1.8% and 2.5% in 2008 and 2.5% in both 2009 and 2010. They also projected that the unemployment rate would never rise above 5% through 2010.

In fact, according to the National Bureau of Economic Research, the recession began that December and lasted through June 2009. Economic growth was a negative 2.8% in 2008 and just 0.2% in 2009. The unemployment rate climbed to 10%. Nor was the Fed’s forecast ability any better during the recovery. At the end of 2010 their projection was for 3.3% growth in 2011 accelerating to 4% in both 2012 and 2013.

They were too high for 2011 by 1.7 points and too high for the next two years by an average of 2 percentage points. At the end of 2012 they forecast 2.7% growth for 2013 followed by an acceleration to 3.25% and then 3.4%. They came close for 2013 but missed the next two years by an average of one full point. At the end of 2013 they forecast an average of 3% growth over the next three years, we got 2.3%.

Then, for the Trump presidency their errors went in the opposite direction. In December 2016 they projected 2.1% growth for 2017 and we got 2.5%. In December 2017 they projected 2.5% growth for 2018 and we got 3.1%. (GDP figures measure from fourth quarter of the previous year to the fourth quarter of the following year.)

This is not a case of sometimes being too high and sometimes being too low.

They forecast very rapid growth after the recovery began because all of the demand-side variables were being thrown at the problem. Interest rates were effectively zero, the quantitative easing programs had been begun and the country was running large fiscal deficits. They neglected to take into account the supply-side drags induced by higher taxes, greatly increased regulation, and a generally antibusiness political environment.

Similarly, they underestimated the supply-side benefits of the deregulation and investment-oriented tax cuts passed under Trump. The Federal Open Markets Committee is packed with Ph.D. economists, nearly all of whom went to the same schools and believe in the same demand-side orthodoxy. Except for recently appointed Vice Chair Rich Clarida, most of the members are either not well versed in or hostile to the premise of supply-side economics.

The reality is the economy has a demand side and a supply side. The Federal Reserve Board has a decision-making process that is almost entirely skewed to the demand side. This lack of intellectual diversity has impaired the Fed’s forecasting ability.

Steve Moore has a master’s in economics from George Mason. He has spent the bulk of his career in the midst of Washington’s economic policy debates. Herman Cain was chairman of the board of the Kansas City Federal Reserve. He is obviously aware of how the Federal Reserve system operates and how monetary policy is made.

I do not necessarily agree with Moore or Cain on a lot of issues. But I am a firm believer in having a variety of views, including those I do not necessarily agree with, expressed. Diversity of thought, not credentialism, is what the board needs.

Larry Lindsey is the former director of the National Economic Council.

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