Hawks, Doves, and Crows

by | November 8, 2021

Now that central banks are scaling back their extraordinarily accommodative monetary policies, investors will laser focus on the incoming data to gauge how fast they will tighten. Much time and effort will be spent estimating output gaps, pondering what constitutes full employment, and eyeballing shifts in inflation expectations—the dynamics that drive monetary policy decision-making. 

After all, a lot is at stake. Changes in monetary policy may have enormous impacts on financial portfolios, homebuying decisions, capital expenditures, and jobs.

Invariably, market pundits will divide the central bankers into hawks and doves, the aviary nomenclature separating policymakers who favor rapid tightening from those who prefer ‘looser for longer’. But if the ornithological metaphor is to be maintained, observers might also want to consider the crows. As any amateur birdwatcher knows, crows are nature’s smartest birds. Crows can make and use tools, understand cause and effect, and even reason. Their smarts allow them to thrive in a variety of habitats, from dense woodlands and alpine slopes to suburban backyards and urban ‘jungles’. 

In a world characterized by rapid and significant change, central banks need less focus on hawks and doves, and more on crows. As Germany’s new ‘traffic light’ coalition thrashes out who to select as the next Bundesbank president, and as the Biden Administration decides whether to reappoint Jerome Powell for a second term as Fed Chairman, each would be wise to consider the crow-like smarts of potential candidates.

Rigid thinking is a liability—even a big risk—in a world of sweeping structural, demographic, and institutional change. The world can ill afford inflexible monetary ‘hawks’ like outgoing Bundesbank President Weidman, whose concerns that mushrooming central bank balance sheets and massive fiscal deficits would stoke runaway inflation proved to be utterly wrong. The failure of monetarists to recognize the huge shifts in money demand and private sector savings during the global financial crisis (GFC), the subsequent Eurozone crises, and the pandemic is, quite simply, staggering. Wrongly alarmed by rapid money growth, they swooped like hawks, missed their prey, and crashed into the monetary woods.

Equally, devotion to extreme dovishness is foolhardy, or worse. Nowhere is that more apparent today than in the silliness that is so-called modern monetary theory (MMT). Permanently subordinating monetary policy to fiscal priorities, no matter how worthy the spending plans may be, is a recipe for disaster. It disarms the central bank from managing inflation, achieving full employment, and ensuring financial stability. If doves could cry, to paraphrase the artist formerly known as Prince, MMT would make them weep.

In academe little is ‘settled’, which is how it ought to be. But when it comes to monetary policy, discretion is widely seen as preferable to strict rules precisely because of the inherent instability of the parameters that govern such rules. Indeed, ever since the collapse of the Bretton Woods system of fixed exchange rates in the early 1970s, monetary policy has had to adapt. Even though some early academics and their central bank disciples had hoped that monetarist rules might guide central bank policy, over the past half-century discretion has rightly prevailed. 

The track record hasn’t been too bad. Independent and discretionary central banks eventually reined in the high inflation of the 1970s and kept it low thereafter. Unemployment rates in advanced economies subsequently fell to their lowest levels in generations. Financial crises recurred, but the rapid responses of central banks prevented massive bank failures that could have otherwise unleashed 1930s-like depressions.  

The alternative is worth contemplating. If central banks had hesitated to accommodate surging money demand during the GFC, financial systems would have collapsed amid bank runs. If Mario Draghi had not committed the ECB’s balance sheet to the defense of the Eurozone with his famous “do whatever it takes”, its demise would have precipitated the largest private and public sector defaults in human history. If central banks had not slashed interest rates, lowered long-term borrowing rates, and backstopped private credit markets during the pandemic, the global economy might have imploded.

True, mistakes were made. Financial excesses have been abetted by central banks that offer investors the perverse incentives of limited downside and limitless upside. In an era of discretionary monetary policy, moral hazard has moved from abstraction to reality. And the wealth divide, supercharged by central banks’ unprecedented lowering of rates and the resulting heightened demand for equities (TINA), has grown exponentially.

Still, the plea for crows to occupy the highest roosts of central banking is not merely a desire for ‘more of the same’. Rather, it reflects today’s bewildering pace of change. Severe shocks have coincided with rapid structural change, just as the principles of postwar economics are withering under a (mostly valid) criticism that they cannot address fundamental challenges such as climate change or vast inequality. Free markets, globalization, inflation-targeting central banking and sound fiscal policies were once touted as the recipe for common prosperity. Today, they are disparaged as antiquated and unfit for purpose.

Amid unprecedented change, ‘crows-thinking’ is essential. It begins with questions, applies reasoning, and adapts to new information. Crows would ask, did the coincident arrivals of pandemic, populism and nationalism fundamentally change how firms will produce and distribute goods and services to their customers? Are declines in labor force participation rates driven by lasting changes in worker preferences and demographics, or by temporary factors related to the pandemic? Does the emergence of massive budget deficits imply years, or even decades, of ‘fiscal drag’ on economic activity?

Precise answers to these and other key questions cannot be easily known. Nor is it possible to know today what those outcomes mean with confidence for money demand, borrowing and lending behaviors, consumer spending, capital expenditures, productivity, or a host of other key outcomes. But policy decisions cannot await full information. It takes a special bird—monetary crows—to make decisions with incomplete information and adjust those stances as more information arrives. 

Failing conventionally is common. ‘Crow thinking’ is rare. But in central banking, it has surfaced on occasion. During the mid-1990s, for example, when US growth was surging and unemployment was dropping, then Fed Chairman Allen Greenspan rightly surmised that US productivity was surging, long before that outcome was widely accepted. His ‘crow-thinking’ enabled accommodative policies that allowed the US economy to grow faster and invest more than conventional approaches would have permitted. Mario Draghi’s ‘whatever it takes’ statement, that saved the Eurozone, was the ultimate expression of crow-like adaptation.

Central banks are tasked with the daunting challenges of ensuring macroeconomic and financial stability. Today, those challenges are compounded by unprecedented change. Adaptability is at a premium. 

The time is right for crows to replace hawks and doves in central bank roosts. 

About the Author

Larry Hatheway has over 25 years experience as an economist and multi-asset investment professional. He is co-founder, with Alexander Friedman, of Jackson Hole Economics, LLC, which offers commentary and analysis on the global economy, policy & politics, and their broad implications for capital markets. Prior to co-founding Jackson Hole Economics, LLC Larry worked at GAM Investments from 2015-2019 as Group Chief Economist and Global Head of Investment Solutions, where he was responsible for a team of 50 investment professionals managing over $10bn in assets. While at GAM, Larry authored numerous articles on the world economy, policy-making and multi-asset investment strategy.

Larry was also the lead investment manager for various mandates, funds and an actively managed multi-asset index. Larry also served on the GAM Group Management Board, was Chairman of the GAM London Limited Board and served as member of the GAM Investment Management Limited Board. Larry was also Chairman of the GAM Diversity & Inclusion Committee. During his tenure at GAM, Larry was based in London, UK and Zurich, Switzerland.

From 1992 until 2015 Larry worked at UBS Investment Bank as UBS Chief Economist (2005-2015), Head of Global Asset Allocation (2001-2012), Global Head of Fixed Income and Currency Strategy (1998-2001), Chief Economist, Asia (1995-1998) and Senior International Economist (1992-1995). During his tenure at UBS, Larry was also a standing member of the UBS Wealth Management Investment Committee. While at UBS, Larry worked in Zurich, Switzerland, London, UK (various occasions), Singapore and Stamford, CT.

At both GAM Investments and UBS Investment Bank Larry was widely recognised for his appearances on Bloomberg TV, CNBC, the BBC, CNN and other media outlets. He frequently published articles and opinion pieces for Bloomberg, CNBC, Project Syndicate, and The Financial Times, among others.

Before joining UBS in 1992, Larry held roles at the Federal Reserve (Board of Governors), Citibank and Manufacturers Hanover Trust. Larry Hatheway holds a PhD in Economics from the University of Texas, an MA in International Studies from the Johns Hopkins University, and a BA in History and German from Whitman College. Larry is married with four grown children and a loving Cairn Terrier, and resides in Wilson, WY.

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