There is really no substitute for making policy backwards, from the desired feasible paths of the objective variables that really matter to the mixture of policy instruments that can bring them about. [...]
The procedure requires a model -- there is no getting away from that. Models are highly imperfect , but they are indispensable. The model used for policymaking need not be any of the well-known forecasting models. It should represent the policymaker's beliefs about the way the world works...Any policymaker or advisor who think he is not using a model is kidding both himself and us...This week, the Wall Street Journal published the results of an interesting study examining the statements of 14 policymakers made during the course of the recovery concerning the economy and its outlook. According to the WSJ, the statements of Janet Yellen have been the most prescient (see this clip). In other words, her model of the economy has been very effective at helping her anticipate the economy's prospects during the last few years. According to Jan Hilsenrath of the WSJ, one of the authors of the study, Yellen
...had a model of the economy that worked in this case. She has a model that says when there's a lot of slack in the economy, when there is a lot of unemployment, when there is a lot of idle factories, you don't get a lot of inflation. And that model worked this time around. [...]
Her fans who want her to become the next Fed chair would argue she's been right before. She was issuing some warnings in 2006 about the housing bubble. She was talking in the 1990s -- you know, when you go to transcripts of Fed meetings -- about froth in the financial markets.One interesting fact is that Janet Yellen was a student of Tobin (and a good one too).
When Janet L. Yellen was a graduate student in economics at Yale University, classmates quickly figured out that the best way to decipher Professor James Tobin's lectures was to borrow her notes. And long after Yellen received her PhD in 1971, the Yellen Notes--as they became known--served as the unofficial textbook for generations of graduate students. ''She has a genius for expressing complicated arguments simply and clearly,'' says Nobel winner Tobin.