A shake-up in the top ranks of the Federal Reserve Bank of Minneapolis is prompting sharp questions about whether the bank is straying from the collegial tradition that built its reputation for world-class economic research.
Two high-profile economists who differed philosophically with President Narayana Kocherlakota have been shown the door in recent weeks, while the research director was moved to a different position.
The changes have raised eyebrows in the small, interconnected world of academic economics, with some suggesting they could hamper the local Fed’s ability to retain top-flight talent.
“It sends a bad message,” said Ed Prescott, a Nobel Prize-winning economist at Arizona State University who spends part of each year at the Minneapolis Fed. “Something very good is breaking down rapidly. Will something new rise out of the ashes? I think that’s what Narayana hopes, but I’m not optimistic.”
A spokesman for the Federal Reserve Bank of Minneapolis, one of 12 regional Fed branches, said the bank has no comment.
The departing economists are Patrick Kehoe and Ellen McGrattan, both highly regarded researchers with long tenures in Minneapolis.
Kehoe, a Harvard Ph.D. who has taught at the University of Pennsylvania and the University of Chicago, joined the Fed as a monetary adviser in 1997. He was the bank’s highest-ranked research economist, according to data from the St. Louis Fed.
“He’s a high-profile person in the profession, a world-class economist,” said Stephen Williamson, a former Minneapolis Fed economist who now works at the St. Louis Fed and is a professor at Washington University in St. Louis. “He’s a big deal.”
Kehoe declined to comment. McGrattan said Kehoe was fired on Oct. 18. He already has a position at the U, which often shares economists with the Minneapolis Fed. “Patrick Kehoe did not choose to quit or leave the Fed,” McGrattan said.
McGrattan, a Stanford Ph.D. who taught at Duke University before joining the Minneapolis Fed in 1992, will take a position with the University of Minnesota in January and will go on unpaid leave at the bank. She has been an adjunct professor at the U since 1993 and said she was pushed aside at the Fed more implicitly than Kehoe.
“I had an outside offer from the university, and I was not retained by the Fed,” McGrattan said. “They did not make a counteroffer. Our lingo is to say that you’re being fired, but you’re not really being fired, you’re just not being retained.”
McGrattan is the third-highest ranked research economist at the Minneapolis Fed, behind only Kehoe and V.V. Chari, according to the St. Louis Fed’s ratings. Prescott, who collaborates with McGrattan, said she is “developing into a star” and is a “great loss” for the bank.
Meanwhile, the bank’s research director, Senior Vice President Kei-Mu Yi, who was brought on by Kocherlakota in 2010, was replaced in October and given a new title — special policy adviser to the president.
The Minneapolis Fed has a reputation as one of the premier economic research institutions in the country. A close partnership between the U and the bank over the years resulted in an innovative marriage of academic economic research and policymaking.
It was a fruitful collaboration in which economists such as Prescott, Tom Sargent, Chris Sims and Neil Wallace helped put the Minneapolis Fed and University of Minnesota on the map. Former President Gary Stern and Art Rolnick, the former research director, continued the tradition.
Sargent, Sims and Prescott eventually won Nobel Prizes in economics, and Sargent and Prescott still have ties to the U and the Minneapolis Fed.
“That’s a very important change in direction,” said Williamson, who wrote a blog post earlier in the week on changes at the Minneapolis Fed under Kocherlakota. “If it’s true that the decision comes from the president, it would be nice to know what that direction is and what the rationale is for it.”
Kocherlakota took over as president in 2009, after spending several years in the same milieu as Kehoe and McGrattan. He was a research economist at the bank in the late 1990s, a consultant there from 1999 to 2009, taught at the U from 2005 to 2010 and was chairman of the U’s department of economics before being named president of the bank.
McGrattan said she does not know why Kocherlakota would fire Kehoe or let her leave — “It’s absolutely mysterious to us,” she said — but the circle of advisers to the president has shrunk since he arrived and she has been frozen out.
“The last time I talked to Narayana one on one was before he was the president,” she said.
There are subtle policy differences between Kocherlakota and the economists who are leaving. Kocherlakota has been at the center of a debate over the effectiveness of the Fed’s low-interest-rate policy. He has pushed for nearly two years for the Fed to hold down rates until unemployment drops to 5.5 percent.
He argues, in general, that what are known as “New Keynesian” economic models are helpful. This school of thought has helped create an unprecedented intervention in the financial markets by the country’s central bank — the $85 billion a month bond-buying program known as quantitative easing.
But Kehoe and McGrattan published a paper in 2008 arguing that monetary policy can do little to affect the unemployment rate, and Fed policymakers should instead focus primarily on controlling inflation.
“New Keynesian models are not yet useful for policy analysis,” they wrote.
Prescott laments that this sort of debate within the bank, long encouraged, no longer appears to be welcome. “A good administrator sets up a loyal opposition,” he said.
Policy differences aside, McGrattan questions the Minneapolis Fed’s commitment to retaining talented research economists. She said she pushed in the past two years for the bank to keep talented, up-and-coming economists Virgiliu Midrigan, Paco Buera and Kjetil Storesletten, all of whom left.
“We can’t let guys walk out the door, otherwise it’s not going to be a top place,” she said. “It will be difficult for hiring in the future.”