Bernanke - the Rebel with a Cause by Sebastian Mallaby

This revolution recalls the 1990s, when the earlier fixation on the money supply was replaced (tacitly in the US, explicitly in other advanced economies) by a target for inflation. Then and now, the focus on a proxy for inflationary pressure – the quantity of money circulating in the economy, or the quantity of bonds on the central bank's balance sheet – gives way to a focus on the outcome that policy makers actually care about, which is non-inflationary growth. 

This switch is commonsensical. Why target a proxy when you can target the real thing? But its true genius is that it builds an automatic stabiliser into the economy. If the Fed specifies how many bonds it will buy monthly, a sudden slowdown will not change what people expect from monetary policy; investors and consumers will react to slower growth by cutting spending, creating a snowball effect. But if the Fed pledges to do whatever it takes to keep the economy advancing, a slowdown will cause people to expect offsetting Fed action. Interest rates will fall in anticipation of easing. With luck, the snowball melts. 

But that is just half of Mr Bernanke's recent shift. In moving the focus from the size of the Fed's balance sheet to its objectives for the economy, he has explained that these objectives include lower unemployment even if that means temporarily higher inflation. This is genuinely radical: for more than three decades, the Fed's leaders have avoided any such statement. Over the long term, central banks alone determine the level of inflation, whereas long-run employment is determined by the flexibility of the labour market and other structural factors. Central bankers have seen no advantage in claiming responsibility for something they could affect only partially, especially since they needed to build credibility as foes of inflation. 

In his academic career, Mr Bernanke contributed to the consensus in favour of targeting inflation. He always said that the target should be pursued flexibly, meaning that temporary deviations might be acceptable. Yet now he has seized that footnote and made it the headline. In declaring himself open to a temporary price spike, he is betting that long-term inflation expectations are well anchored, so that wage claims remain moderate and no inflationary spiral sets in. Janet Yellen, the Fed's vice-chair, has explored how much looser Fed policy should be under these assumptions. The answer is: a lot. 

There are risks here, clearly. The Fed is gambling on expectations about prices, which may prove fickle. It is hoping that massively stimulatory policies in the short run will not be mistaken for a loss of inflation-fighting resolve over the long run. But the Fed confronts an economy in which 5m Americans have been jobless for six months or more. The risks of inaction outweigh the risks of action. Mr Bernanke has rebelled against a monetary consensus to which he himself contributed. But he is a rebel with a cause.