The Federal Reserve’s policymakers left interest rates unchanged at their meeting this week, and the central bank’s new policy statement affirmed the “wait-and-see” approach unveiled by Chairman Jerome Powell in January. That didn’t stop many analysts greeting this uneventful announcement as significant. The reason was the Fed’s famous and increasingly confusing dot plot.
Fed officials are right to be asking whether the dot plot has outlived its usefulness. Indeed it has — and it should be dropped. Under current circumstances, it is confounding, not helping the Fed’s efforts to explain itself to investors.
The dot plot shows, for each Fed official concerned, the short-term interest rate he or she believes will be appropriate over the course of the next several years if the economy evolves as he or she expects. This means that the dot plot doesn’t show forecasts of the rates officials expect to prevail. Still less does it indicate commitments, or even intentions, to set the rate at some particular level. And since each interest-rate judgment has its own unstated forecast baseline, the dot plot conveys its information in a very confusing way.
Arguably, the device made some sense when the Fed’s overriding concern was to make investors believe that interest rates would be held at or close to zero for a protracted period — as during the years after the crash. When interest rates cannot be cut further, so-called forward guidance that rates will be held down can deliver some additional monetary stimulus, and that’s useful. Under those conditions, it served the Fed’s purpose to have the dot plot construed as a promise, rather than as a compendium of tentative, changeable judgments.
That’s no longer the situation. Interest rates have been lifted off their floor of zero, and the economy is at a point of unusual uncertainty, with extremely low unemployment, yet with fewer signs of inflationary pressure than one might expect. The Fed is watching for whether conditions in the labor market are tightening in a way that would push wages and prices up faster. In the meantime, it’s rightly keeping an open mind.
The dot plot obscures this change in the character of the Fed’s guidance. That is, it blurs the subtle but crucial difference between “The Fed has no plan to raise interest rates” and “The Fed plans not to raise interest rates.” Powell is saying the first; the dot plot invites people to believe the second.
It usually makes sense for a central bank to provide more information about its thinking rather than less — but not if its message begs to be misunderstood. The Fed would be wise to make the March dot plot the last.
FROM AN EDITORIAL ON BLOOMBERG OPINION