Austan Goolsbee on Central Banking as a Data Dog

Austan Goolsbee is one of Tyler Cowen's favorite economists—not because they always agree, but because Goolsbee embodies what it means to think like an economist. Whether he's analyzing productivity slowdowns in the construction sector, exploring the impact of taxes on digital commerce, or poking holes in overconfident macro narratives, Goolsbee is consistently sharp, skeptical, and curious. A longtime professor at the University of Chicago's Booth School and former chair of the Council of Economic Advisers under President Obama, Goolsbee now brings that intellectual discipline—and a healthy dose of humor—to his role as president of the Federal Reserve Bank of Chicago. Tyler and Austan explore what theoretical frameworks Goolsbee uses for understanding inflation, why he's skeptical of monetary policy rules, whether post-pandemic inflation was mostly from the demand or supply side, the proliferation of stablecoins and shadow banking, housing prices and construction productivity, how microeconomic principles apply to managing a regional Fed bank, whether the structure of the Federal Reserve system should change, AI's role in banking supervision and economic forecasting, stablecoins and CBDCs, AI's productivity potential over the coming decades, his secret to beating Ted Cruz in college debates, and more. Read a full transcript https://conversationswithtyler.com/episodes/austan-goolsbee/ enhanced with helpful links, or watch the full video https://youtu.be/wvvP9sFANjM on the new dedicated Conversations with Tyler channel. Recorded March 3rd, 2025. Help keep the show ad free by donating https://mercatus.donorsupport.co/page/podcastgift?utm_source=cwt+podcast&utm_medium=podcast&utm_campaign=shownotes today! Other ways to connect Follow us on X https://twitter.com/cowenconvos and Instagram https://www.instagram.com/cowenconvos/?hl=en Follow Tyler https://twitter.com/tylercowen on X Follow Austan https://x.com/Austan_Goolsbee on X Sign up for our newsletter https://mercatus.tfaforms.net/5060931 Join our Discord https://discord.gg/JAVWP7vTxt Email us: [email protected] mailto:[email protected] Learn more about Conversations with Tyler and other Mercatus Center podcasts here https://www.mercatus.org/podcasts.

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:04Tyler Cowen?

  Conversations with Tyler is produced by the Mercatus Center at George Mason University, bridging the gap between academic ideas and real-world problems. Learn more at mercatus.org. For a full transcript of every conversation enhanced with helpful links, visit conversationswithtyler.com.

• 0:28Tyler Cowen?

  Hello, everyone, and welcome back to Conversations with Tyler. Today, I'm very happy to be chatting with Austin Goolsbee. Austin is one of my favorite economists. He always thinks like an economist, is how I would put it. He has had a longstanding teaching post at the University of Chicago, served in the Obama administration, and now is president of the Chicago Fed. Austin, welcome.

• 0:52Speaker 01

  Tyler, thank you for having me, and what a treat for me this is. I really appreciate it.

• 0:59Tyler Cowen?

  What is it in academic macroeconomics, or just economics, that you found surprisingly useful, being a Fed president?

• 1:08Speaker 01

  I was a data guy, as you know, in the field of economics. And soon as I got there, there's all this pressure from the press and from others, are you a dove, are you a hawk? And I used to say, look, I'm not one of the birds, I'm in the data dogs. And the first rule of the data dogs is there's a time for walking and a time for sniffing and knowing the difference between those. And I would say that discipline of academic economics, getting into the data, is super useful. And then, we're used to thinking about causality and identification, and I do think we could

• 1:52Speaker 01

  use a little more of that in a macro context.

• 1:55Tyler Cowen?

  But say you're trying to figure out the connection between the money supply and the rate of price inflation. What's the first mental model you put on as a hat? You might disregard it when the data tell you otherwise, but where do you start?

• 2:08Speaker 01

  Kind of sniff around. I'd say there are multiple models. There's some people, and embodied in the machinery of the FERB's official Federal Reserve Bank model, is probably a kind of a Keynesian, inflation comes from overheating.

• 2:25Speaker 01

  I'd say the old style money supply is what's correlated with inflation. A lot of those relationships between M2 and inflation or that sort of thing feel a little antiquated. They kind of broke down in the data.

• 2:42Tyler Cowen?

  But why are those wrong? Like, what's the theory in your mind? You're trying to teach me I'm in your class.

• 2:47Speaker 01

  I think there's two. Let me finish one thought and then let's come back to what's wrong about it. I still like the most of all, the basic supply and demand framework. And that before you can conclude anything, you gotta get a taste of is this a supply shock? Or is this a demand shock? And in a way, a lot of the machinery of central banking and macro analysis, let's call it, is oriented around demand. And I'm not disputing that in the past, that's been the, that has been the source of the most frequent business cycle variations.

• 3:26Speaker 01

  But I've tried to caution everybody in weird moments, like when you're getting major developments on the supply side, whether they're labor supply or supply chain or productivity growth, or a number of things that are hitting the supply side. Maybe all bets might not be off, but, but the, the training sample, LLM version of being a central banker is going to be prone to, to hallucination problems. Because it's gonna, it's gonna give you things that are wrong because supply shocks might be driving inflation, not demand.

• 4:05Speaker 01

  So then go back to your other question of, well, what's wrong with taking M2? And why would it no longer be as correlated with price inflation? I think that a lot of that is because of financial innovation that we have at great pride and I love the cash vault at the Chicago Fed. They don't like it if I say exactly how much money is in there. I'll just say many tens of billions of dollars of cash are in that vault and we run hundreds of millions a day in and out. There was a time when that

• 4:44Speaker 01

  cash use was central to the payments of the United States and bank accounts and checking accounts and writing a physical check, again, central to the function of the financial system. And as we've spread to electronic payments and credit cards and debit cards and that sort of thing, it has made, I guess in the old model, you would say it's radically changed the velocity of money. And so it wasn't just M equals PY, it was M times V. So if M is moving around and V is moving around at the same time, you're going to get a little, you're going to get a little mixed up interpreting to over indexing on that theory.

• 5:29Tyler Cowen?

  Okay, so if the instability comes from the velocity side, that means that we should favor a monetary growth rule to target the growth path of nominal GDP, M times V, right?

• 5:39Speaker 01

  Yeah, Dan, now you're going to get me in trouble, Tyler. But here's the thing.

• 5:42Tyler Cowen?

  You can just say yes, right? You're not in trouble with me.

• 5:45Speaker 01

  I'm not going to say yes, because remember, I don't like making policy off accounting identities. There's no economic content in accounting identity. And if you are trying to design a rule, that rule may work if the shocks are the same as what they always were in previous business cycles. But I called it the golden path. When we came into 2023, you'll recall, the Bloomberg economists said there was a 100% chance of recession in 2023. They announced at the end of 2022. That's when I came in to the Fed system, is the

• 6:25Speaker 01

  beginning of 23. And that argument was rooted in the past. There had never been a drop of inflation of a significant degree without a very serious recession.

• 6:41Speaker 01

  And yet, in 2023, there was. Inflation fell almost as much as it ever fell in one year without a recession. If you are, if you over-index too much on a rule that implicitly is premised on that everything is driven by demand shocks, you just, I just think you want to be careful. Over-committing.

• 7:05Tyler Cowen?

  But I'm a little confused at the theoretical level. On one hand, you're saying M times V is an identity, but on the other hand, it drives inflation dynamics.

• 7:14Speaker 01

  It's why I started back from, I bring a micro sentiment to the thinking about causality and supply and demand. I sensed that you want to bring us to a, let's, let's agree on a monetary policy rule. And I'm inherently a little uncomfortable. I want to see what the rules say, but I fundamentally don't want us to pre-commit to any given rule in a way that's not robust to, to shocks.

• 7:49Tyler Cowen?

  Now, you mentioned the post-pandemic inflation and the role of the supply side. When I look at that inflation, I see prices really haven't come back down. They've stayed up and I see service prices are also quite high and went up a lot. So I tend to think it was mostly demand side. Now, why is that wrong?

• 8:07Speaker 01

  Hmm, okay, there's two parts to that. I won't say why it's wrong, but here are my questions. If you're a firmly a, this all came from demand guy. A, you got to answer, why did inflation begin soaring in the U.S. when the unemployment rate is over 6%? Or we could turn it into potential output terms if you want, but output is below our estimate of potential. Unemployment is way higher than what we think of as the natural rate and inflation is soaring. That already should make you a little questioning.

• 8:47Tyler Cowen?

  I can cite M2, you may not like it. M2 went up 40% over a few year period, right?

• 8:54Speaker 01

  Okay, two.

• 8:57Speaker 01

  The fact that the inflation is taking place simultaneously in a bunch of countries of similar magnitudes that did not have the kind of aggregate demand fiscal or monetary stimulus that we had in the US is also a little bit of a puzzle. And then the third is if you don't think it was supply, then you kind of need to have an explanation for why when the stimulus rolls off, okay, and this, everything about the stimulus is sort of delta from last year.

• 9:35Speaker 01

  So we pass a big fiscal stimulus, we have substantial monetary stimulus that rolls off, the inflation doesn't come down, and then in 23, when the supply chain begins to heal, you see inflation come down. So those three things kind of suggest there's a little bit of a puzzle if you think it was all demand.

• 10:01Tyler Cowen?

  No, I don't think it was all demand, but you mentioned other countries. Switzerland and Japan, they import a lot, right? They were more restrained on the demand side. They had much lower rates of price inflation. That seems to me strong evidence for it being more demand than supply.

• 10:16Speaker 01

  Wait a minute, wait a minute.

• 10:16Tyler Cowen?

  I'm waiting.

• 10:17Speaker 01

  You're bringing, you're going to bring in Japan?

• 10:20Tyler Cowen?

  Yes.

• 10:21Speaker 01

  And, and you're going to try to claim that Japan's low inflation is the result of something in COVID? I mean, Japan had lower inflation all along for decades before they were, they were going through deflation.

• 10:34Tyler Cowen?

  But if it was mostly supply, a supply shock would have gotten them out of the earlier deflation, right? A demand shock would not have.

• 10:41Speaker 01

  Well, let's back up and try to look at big countries that are not export oriented, that are primarily domestically driven, like the United States. I think imports are what 10, 12% of personal consumption? You take Nigeria, you take India, you take a series of big economies that are primarily domestically driven.

• 11:06Speaker 01

  Why was inflation high in all of these places simultaneously? I do think there's a puzzle. I'm not, I don't think it's 100% supply. I do think there was a serious demand component. But you've still got to explain when the demand stimulus rolls off, inflation doesn't go down, and then when the negative supply shock rolls off, inflation does go down. So I'm sort of back into my, I'm still curious about it, but I find the argument that this was predominantly or entirely demand unpersuasive for some of those reasons.

• 11:49Tyler Cowen?

  Let me try a question from the other extreme. Why does money matter at all? Isn't it a very close substitute for T-bills? You're paying interest on reserves, you balance that rate with other interest rates. There are slight differences in terms of maturity and liquidity profiles. But it could be like the proverbial swap of two nickels for a dime. So maybe money just doesn't matter. Could you teach me why that's wrong?

• 12:11Speaker 01

  I don't, you're bringing me into, I need to ask you to teach me why it's wrong. I know you've raised this before, and it's not really an answer to say the market seems to feel like they're not the same, that there are safety, there's some yield to safety that we don't quite understand, I'd say. And it becomes more relevant, perhaps, in a world where people are creating money like deposits all over the place. You know, we got stable coins, as well as the use of credit cards,

• 12:52Speaker 01

  debit cards, a whole bunch of things that look kind of like old fashioned bank accounts or checking accounts.

• 13:01Speaker 01

  I guess the long answer is the definition of a money like deposit, why is it different from from explicit money? I don't totally know, but that part of me wants to caution you back from going back to M2 in a world like that, where where there are imperfect substitutes for for money.

• 13:21Tyler Cowen?

  But it's weird that we economists can't explain it, right?

• 13:25Speaker 01

  Yeah, probably. It's probably weird. But look, you're going to find yourself back into the data dog caucus and out of the out of the pure theory.

• 13:37Tyler Cowen?

  Do stable coins increase, you know, the true money supply or the rate of price inflation? It is a kind of intermediation. Say they're backed fully by treasuries. Let's say it's for real, it's not fraud.

• 13:49Speaker 01

  Okay, now you just sent a chill of you just sent a chill down my spine when you said it's backed by treasury. So they have the treasuries in there.

• 13:58Tyler Cowen?

  Yeah, 100% reserves and someone creates a stable coin.

• 14:02Speaker 01

  I'm liking the sound of that. I'm liking the sound of that. And I'm just a little, I'm not a, I'm not anti crypto. There's a lot of anti crypto, but I am nervous. If you tell me you're going to create money like deposits, that people are going to put their money in there and they can take it out whenever they want. I feel like either A, there better be some deposit insurance, or B, there better be some pretty serious restrictions on what the assets backing that or restrictions on what the what the entity can do with the money, or else that thing ends in bank runs and tears.

• 14:45Speaker 01

  We kind of have 500 years of financial history that tell us that.

• 14:49Tyler Cowen?

  I'll come back to stable coins.

• 14:51Speaker 01

  I'm just a little nervous about that.

• 14:53Tyler Cowen?

  You ought to be very nervous, though. We'll come back to stable coins. But if you look at banking as a whole, I've seen figures that formal legal banks are about one-fifth of the lending total. Private equity is more important.

• 15:05Speaker 01

  It's that low.

• 15:05Tyler Cowen?

  The real sector of the economy, and that's not FTEIC insured.

• 15:09Speaker 01

  Yeah.

• 15:10Tyler Cowen?

  That is in fact runs prone, as we learned in 2008. So you've just got to be hyper, super nervous.

• 15:16Speaker 01

  Yes, that look, that's the, that's the very essence of financial stability, the conundrum of financial stability that we face as a society and as central banks around the world are exactly this, that there is an official banking sector that we have oversight of. And then there's a shadow banking sector, which is getting bigger and bigger every year and can be prone to runs. And that, that runs and the, what is the role of a central bank as a lender of last resort? An environment where it's, where it doesn't play.

• 15:53Tyler Cowen?

  By trying to keep banks special, haven't we created a world where 80% of the lending is outside banks, which is much harder for the Fed to deal with, even if you should sometimes step in. And that, at the current margin, it's counterproductive to keep banks legally special because we drive more and more business out of banks.

• 16:12Speaker 01

  That was two different statements. One is the, how is that a problem? And the second was the, was the normative, isn't it useless and we shouldn't do it? Jeremy Stein is an old friend and I'm a massive admirer of his work. When he was a governor at the Fed, he highlighted exactly this, that we have to strike a balance in financial stability of if you squeeze really, really hard on one side, there can be regulatory arbitrage and can lead to activity to shift to the area where we don't control. And oftentimes don't even have the information. I agree with you that, that part. I don't know if I would go so far as your second statement that

• 16:57Speaker 01

  therefore it's counterproductive oversight, raising capital ratios is on official banks is not effective because, because it leads to shadow banks. I mean, we went through very early, I arrive at the Fed and then the Silicon Valley Bank events happened. And I was there back in 2009 when the big banks were the centerpiece of the problem. And the fact that in March of 23,

• 17:29Speaker 01

  The big banks were not the problem. I think a lot has to do with all of the efforts that were put in place to raise capital at those larger banks. And we can argue about whether it was done right, but you got to admit, it made you feel better that it wasn't the biggest official banks that were facing critical deficiencies in capital.

• 17:53Tyler Cowen?

  On the great financial crisis, I have a question. I'm curious how you frame this. In 2009, I was convinced we had had a housing bubble. Today, I look at real estate prices, and I think most of the country didn't. Maybe suburban Orlando did, but the prices were right, and we had some anti-bubble panic, and that was the problem.

• 18:12Speaker 01

  That's a fascinating point.

• 18:13Tyler Cowen?

  But what's your view?

• 18:15Speaker 01

  I hadn't thought of it that way. My view is the, my view has been more, part of the job of the reserve bank presidents is we have a district, and our district in Chicago is kind of heart of the Midwest, most of Wisconsin, Iowa, Illinois, Indiana, Michigan. So I'm out talking to business people, I'm talking to individuals, and overwhelmingly, what you hear is despair, I would even call it despair, about the cost of housing, that housing, they can't move. And this is not just in cities, where you could argue, a lot of it maybe has to do with building codes and zoning. We went out to the Iowa Farm

• 18:59Speaker 01

  Bureau, and in rural Iowa, I asked them, what's the biggest problem? They said, attracting workers. And I said, why is it so hard to attract workers? They said, because they can't afford to buy housing here. So I've spent a long time trying to think that through, and it's not wrong that it's just more extreme. The last couple of years, the house price inflation has been radically higher than goods price inflation. So if you just kind of compare buying a house to buying stuff at Costco or Target,

• 19:37Speaker 01

  There'd been a big differential, but what's important is that's not new in the last three years. That's been going on literally for decades. Okay, so if you take the 12 years before COVID, house price inflation was three and a half or 4% a year and goods price inflation was actually deflation of around 1% a year. So the relative price of housing has been rising 4%, 5% per year for a decade and a half. And it doesn't take a PhD by any means to recognize that something compounding at 5% a year is going to add up to a big

• 20:21Speaker 01

  number. So I think it goes to your question of, well, maybe it wasn't a bubble. I don't fully understand why the relative price of housing has been trending upward like this. I find it hard to explain. I have a paper you might have seen with Chad Sieverson that's about negative productivity growth in the construction industry over long periods of time, which is itself a puzzle. Maybe that's part of it. Some component of it may be regulatory in nature, but as I say, you see it in rural areas too, where the, where the land use regulation is, is not as prevalent. I think that's a, that's a real puzzle.

• 21:04Tyler Cowen?

  On the construction productivity puzzle, what do you think is the main reason for that, that it's negative? If it were zero, that would be a little easier to understand, but we're forgetting how to build homes?

• 21:15Speaker 01

  Yeah, somehow we're forgetting, we're doing it worse. And, and we tried in every way we could think of to analyze this. Maybe, maybe it's just mismeasurement. So we, we got evidence on the physical number of homes and the value of those homes that you could deflate by the very localized price deflators.

• 21:37Speaker 01

  At the best, it's zero and it it mostly looks like we're getting worse at it. And Ed Glazer, who's an old friend of mine, and I know you're a fan of his work as well. He believes that it is very much tied to land use regulation and other regulations on the construction industry. But if you go back to the 1970s or 60s, they were moving in a modular direction. Think of it as a as kind of higher brow prefab housing, turning construction more into manufactured good, and that the regulations in some sense have forced an inefficient scale on our producers.

• 22:22Speaker 01

  But I don't know. We documented it. We showed what it was not, but we weren't able to find a smoking gun for what it was.

• 22:31Tyler Cowen?

  Now, in your role in running the Chicago Fed, which is like running a corporation, right? What is it from microeconomics that you have found especially useful or helpful?

• 22:43Tyler Cowen?

  Because you face a lot of managerial problems that have nothing to do with headlines about the Fed, right?

• 22:47Speaker 01

  Yeah, it's true. The first thing to know about the reserve banks is there is a professional COO called the first vice president. And Chicago's first vice president is a woman named Ellen Bromagen, who's the best. Everyone says amazing. I was at an early meeting. Well, I'd been I'd been at the Fed for, I don't know, maybe five months. And one of the other presidents said, it seemed like he was he was being nice. He said, you know, it seems like seems like it's going great. You've been really doing a good job. I said, thank you. And he said, or that's what I was thinking. And then I realized Ellen is your first vice president and Anna is your research director,

• 23:32Speaker 01

  Anna Paulson. How big of an idiot would you have to be not to look like you were doing a good job? And look, there's there's something to that. The micro theory of delegation, I think, is important. And Things that have a marginal cost of zero, it's fine if you do more of those things. That's kind of the the idea of what is a what is a cost? What is an opportunity cost? And what is a marginal cost are some of the most important microeconomic ideas that I think we can apply to management.

• 24:04Tyler Cowen?

  So what would be an example of something with a marginal cost of zero?

• 24:09Speaker 01

  Well,

• 24:12Speaker 01

  if you look at marginal cost of zero things,

• 24:17Speaker 01

  opening meetings to include others and having folks work together, sharing of information can often have very low cost, if not literally zero and strong benefits is in the in the same way in our growth models. Knowledge is a public good. Information can have a very low marginal cost and can help us facilitate working together. And so I've tried I've tried to emphasize those internally.

• 24:49Tyler Cowen?

  Now, we live in an age of fiscal pressures, as you know, and recent experience with Doge has shown that even if the amounts of money at stake are small, people will go after highly visible targets. Do you think, say, 10 years from now, that we'll have so many different Federal Reserve branches that each have their own research staff in any large numbers?

• 25:11Speaker 01

  Well, that's what you you mean. Might they kill that system?

• 25:15Tyler Cowen?

  Or someone? Right, that's the system we have. And someone might ask, why does the Federal Reserve Bank of Dallas need as many research staff as it has?

• 25:25Speaker 01

  OK, so then let's back up to a little bit about how the Fed is created. And it was made in 1913. So it's a little bit kluge. And like every politically created thing, it involves some compromises. But there are a couple of pieces, I think of genius, or at least very durable, important contributions about how the Fed is is built that we should not lose. OK, the first thing to note is we have a hybrid federal system in which, yes, there is a chair and there are seven governors that are political appointees named by the president, confirmed by the Senate.

• 26:09Speaker 01

  In 1913, as today, people were deeply uncomfortable with the idea that either Washington DC or New York City, or just a combination of those two, would control the US financial system with no input from the rest of the country. So, they didn't set it up that way. They added 12 reserve banks from around the nation to be part of the FOMC. And we go and we sit around the table, there's 19 people. Seven of them are political appointees. 12 of the people sitting around the table are not political appointees. They're chosen by boards of directors out in the flyover states like us, where business

• 26:54Speaker 01

  leaders, civic leaders, and people from the region choose to have representation. I think it's critically important that we maintain that kind of monetary policy independent thought, that it's not just New York City and Washington DC that are coming with one perspective. And you've probably seen some of the analyses over the years, that a lot of the new ideas about monetary policy, about banking and supervision, came out of the reserve banks. And that's why we have our own research departments.

• 27:35Speaker 01

  And that's why we take very seriously the idea that when we go to the FOMC meeting, I love hearing what the other presidents and the governors have to say. I said with no irony, I consider the FOMC to be the world's greatest deliberative body at this point. No offense to the US Senate or to anyone else. It's an amazing group. And if you're an econ nerd, you go into that room, and it is just about the coolest thing there is on this planet. You know, the shades come down, there's a giant table, and they go around the table, and Jay Powell's gonna say, here's what I see in the economy. And then it's gonna go to Chris Waller, and it's gonna go to the, you know, President

• 28:19Speaker 01

  Barkin and President Plastik, you know, what do you think? And... I think that's really important. So if we put ourselves on a path that we're going to go chip away at that and that somehow it would be more efficient to hammer away and get rid of the national representation on the FOMC, I think that'd be a terrible mistake.

• 28:42Tyler Cowen?

  I like the structure of the committee. I think that's excellent. But if someone said to me, well, there should only be five feds with the staff, but say you should have complete access to all of them. If macro is mainly about data rather than new theories, and I agree with that, five staffs should be enough. It's not like the old days where you needed the Minnesota school monitor as a matter of St. Louis.

• 29:02Speaker 01

  But then why any? Why not just one? Why not say, hey, to hear the data sets, we'll give you all the data sets. We only need one opinion. You, of all people, Tyler, you know how dangerous that is. We need to let some flowers bloom because monocultures are prone to group think.

• 29:21Tyler Cowen?

  That's why I say five. You could talk me down to three, perhaps.

• 29:26Speaker 01

  Look, as I say, the thing was invented, there's two of them in Missouri at the time in 1913.

• 29:32Tyler Cowen?

  It's like baseball teams, right?

• 29:33Speaker 01

  Nothing. Yes, it's kind of like baseball teams. But in an era where almost all the teams are in New York City, you know, baseball is the worst sport.

• 29:44Tyler Cowen?

  What should the regional feds be doing managerially to prepare for the arrival of AGI or just very strong AI, whatever you want to call it?

• 29:53Speaker 01

  I don't know. I'm still curious and I hope we will. Let's have a little extended discussion about AI and what does it mean for productivity and how real is it? The thing that banks do, I always say it's kind of a handful of things and it's five basic functions, one of which is monetary policy. And I consider that the opposable thumb, you know, that's what separates us from the animals. And you got monetary policy and then there's Directing the payment system of the United States, people probably don't understand unless they get into it, that the plumbing of the financial system, wire transfers, ACH direct

• 30:37Speaker 01

  deposit, Fed Now, there's a whole bunch of payment system things that are operated by the Fed system that are critically important. The biggest thing in terms of employees is bank supervision and regulation and oversight to make sure that our official banks are safe and sound. We're a bank to banks, so the fourth is financial services, like we send cash for their ATM machines. We do a whole bunch of financial services for the member banks. And then the fifth is to participate, be upstanding members of the community. We have a community development function. We have a regional economics focus.

• 31:20Speaker 01

  We are absolute experts in Chicago, for example, on the auto industry. We have by far the most auto production and the highest manufacturing intensity of all the districts. So we have expertise in that. And I think all five of those are quite important that we maintain them. Where AI fits in? I could see it fitting in in supervision and alerting you, at least red flagging, here's a place to look more. As of now, though, there is a rule forbidding the use of AI tools for general Fed usage, and I understand it.

• 32:04Speaker 01

  If you take secret information, confidential information, and start plugging it into these and it starts getting out, I think that would be a problem.

• 32:14Tyler Cowen?

  But you could put this on your hard drive, right? We're very close to being able to do that. The Fed has incredible data. You could take everything all the Feds know about banking failures, build an AI, keep it on the Fed hard drive, and they would do much better than any human in predicting bank failures.

• 32:29Speaker 01

  Maybe. That's a hypothesis. And I had this theory before we ever started talking about LLM models. I had this theory with academics on the job market that would come in with a structural I/O paper. And I believe that down deep in the human psyche, there are

• 32:51Speaker 01

  What I always called the fundamental human, some people believe in magic and some people fundamentally don't believe in magic. And how it would play out is if a person had a paper that was so complicated that you could not understand it, there would be some people would say, wow, was that job candidate impressive? They had such a machinery, I couldn't even tell what was going on. And then there would be people like Gene Farmer, who would say, that guy was a complete bullshitter. I couldn't understand anything that they were saying. And that idea of do

• 33:29Speaker 01

  you believe in magic or not believe in magic, now transpires a little bit into the to the AI world. So you might believe in magic, Tyler, if you think that that will automatically be in near term, better than any human. And the only caution I would have is back up to 2023. And the ask the question, could, could an LLM replace the FOMC and do it better? And I have some severe qualms that it could, because you're only as good as the training

• 34:10Speaker 01

  sample. And the training sample would have said, as you went into 2023, inflation's way too high. What should happen? What is going to happen? The LLM would have said, it's a lead pipe cinch guarantee, you need to jack up the interest rate and have a massive recession, otherwise inflation will not come down. And it's only the thinking, hey, wait a minute, might there be a supply shock here? That we're getting a positive supply shock of massive labor force participation increase? You know, more flexible labor markets? So disabled workers can come into the workforce? Women are coming back into the workforce? The LLM would not catch that.

• 34:55Tyler Cowen?

  I want you to talk me into the correct view on a central bank issued digital currency. And let me explain to you my dilemma.

• 35:02Speaker 01

  Okay.

• 35:02Tyler Cowen?

  It seems on one hand, if the Fed or other central banks, if they do nothing, stable coins simply proliferate.

• 35:09Speaker 01

  Yeah.

• 35:09Tyler Cowen?

  You lose control, there are prudential issues, maybe eventually money supply issues.

• 35:15Tyler Cowen?

  If you do something and say, create a CBDC through the Fed, there's the risk of disintermediating community banks, regional banks, smaller banks, and Americans seem to hate the idea for reasons that to me are partly irrational, maybe somewhat justified. So what exactly is the right view to have on this? I find myself torn. You must think about this.

• 35:39Speaker 01

  I've seen you ask. I've seen you ask Mark Carney and others about this very top. The first thing I'll say, I'm at Chicago Fed, we don't set policy on stuff like that. That's Washington has to set.

• 35:51Tyler Cowen?

  Yeah, but they ask you for advice. You're a renowned economist.

• 35:54Speaker 01

  Congress has to set that policy. I think the thought that grandma is gonna have a CBDC and forget her password and the Fed is gonna have like a customer service line that grandma's gonna call and say, how do I get my password back? I don't know. I don't see that. That seems pretty far from the, from the world that the Fed's gonna focus in. CBDCs that are a wholesale thing, I at least have more understanding and some of the central

• 36:34Speaker 01

  banks do that, but there I kind of wonder, how different is that from wire transfer? You know, what, what does it mean? What is a wholesale?

• 36:45Tyler Cowen?

  I mean retail, like we have retail stable coins. A true CBDC, yeah. Like a $10 bill.

• 36:50Speaker 01

  But did you think, do you advocate postal savings accounts or government-run bank alternatives? There are countries where they, where they have that. And I, I kind of feel like you're, it's approaching that space.

• 37:08Tyler Cowen?

  It's worked okay in the past. I suppose. I'm willing to live with the proliferation of stable coins, but all the paths make me nervous.

• 37:17Speaker 01

  All the paths make you nervous.

• 37:18Tyler Cowen?

  And you might prefer, yeah, grandma calling on the Fed line, you might prefer to managing all these stable coins and grandma emailing her rep, or grandma's AI emailing the rep, saying, hey, you know, I couldn't get my stable coins back because the private supplier screwed me. What's the Fed going to do about this? That's not a fun phone call either.

• 37:37Speaker 01

  That's not a fun phone call either. I agree with that. To the extent that there are non, in a way, it's back to our thing of what's a bank and what's not a bank. And your argument is, in some sense, stable coins are shadow banks. And the disintermediation of community banks or, or the like, will be, will create a lot of upheaval. And there will be a lot of jockeying in a world like that, and I agree. The thing is, the risk so far associated with cryptocurrency makes me nervous. Again, I want to reiterate, I'm just at a reserve bank.

• 38:22Speaker 01

  We don't set policy on this. Congress has to set this policy. And in conjunction with the Board of Governors, Washington sets the policy here. I, I find the prospect that the stable coins, if we're going to go back to the free banking era in the United States, they end the second bank of the United States, we go through decades where you, anybody can start a bank. And if you go look at the free banking era, it is an era of massive numbers of bank failures and recurrent financial crises, the panic of 1847, the panic of 1857, a close to panic

• 39:07Speaker 01

  in 1860, massive numbers of recessions.

• 39:12Speaker 01

  In the flavor of person shows up, starts a bank, they're supposed to be backed by the equivalent of treasuries, but they start the bank, print their own money and get out of town.

• 39:27Speaker 01

  That seems problematic to me to be in the space and anything where you're going to have cyber attacks and fraud associating the Fed's name with it. We just need to be, we just need to be careful. In a, in a way, the Fed will always be the fuddy duddy of the financial system, and that's how it should be. You might have seen, my colleague at University of Chicago, Eric Boudish, had this paper about, let's call it the blockchain and centrally controlled versus not centrally, not controlled, but central oversight crypto

• 40:05Speaker 01

  versus non-central oversight crypto. And it kind of, it's just a theory paper, but it goes off of the idea that everybody collectively agrees to history, what happened and who made a transaction. That's the essence of what's happening on the blockchain. And that the attack, the potential attack, that if you could get 50% plus one of the miners of the blockchain to say, no, no, there was a transaction, and all of that's, all of that coin is actually,

• 40:42Speaker 01

  they, they sent it to us for nothing. You could get 51% of the instantaneous flow, and that would allow you to snipe attack a giant stock of crypto. That's a very interesting paper, and it's

• 40:59Tyler Cowen?

  Oh, I know that piece. It's great.

• 41:00Speaker 01

  It's a bit challenging. You know that.

• 41:01Tyler Cowen?

  I get that problem, but just concretely, you know, Tether is chartered abroad, right? What are you all going to do about it?

• 41:07Speaker 01

  Yes.

• 41:08Tyler Cowen?

  There's no great firewall in the United States.

• 41:11Speaker 01

  I don't set the policy, but the

• 41:13Tyler Cowen?

  But they come to you for advice. Like, what do you tell them they should do?

• 41:16Speaker 01

  Who, Tether?

• 41:17Tyler Cowen?

  No, the US government.

• 41:18Speaker 01

  Well, the US government. Do everything you can to make sure that they have the assets that they claim to have.

• 41:23Tyler Cowen?

  But can we do anything? They're chartered abroad. Was it Cayman Islands, or?

• 41:27Speaker 01

  So, the question of what's inside the safety net and what's outside the safety net is a super important problem. You probably know, or if I was very close friends with Paul Volcker. And he was a mentor to me and, and really one of my personal heroes. And we went through the analysis of the financial crisis of as, as we went through oh seven and into oh eight and Bear Stearns and the financial crisis and the response. And he early, early on identified this question that it's all going to come out to at some point soon.

• 42:12Speaker 01

  They're going to be like, who gets rescued and who doesn't? And anything that's too risky has got to stay outside the shadow of rescue, if you want to think of it that way. And if it's risky, it can't get, but where, where my, where I start to get nervous. And as I say, I'm not anti crypto. I, I like innovation and financial innovations. If we start attaching risky things to the payment system. Now, now I'm, now I'm getting nervous because we know that in financial crises, we must make sure that people can still make their payments.

• 42:55Speaker 01

  That they, they're not getting evicted and they make their house payment. Or they can buy groceries or they can buy whatever. If stable coins started turning into actually the money that we're using.

• 43:07Tyler Cowen?

  And they are turning into that.

• 43:09Speaker 01

  They want to, but I don't know if they are. But to the extent that they start to do that. I think we gotta take seriously the risk that that poses to financial stability.

• 43:22Tyler Cowen?

  That's the argument though for CBDC because otherwise they can proliferate abroad. If, if there were a Fed stable coin, you would crush the market, right? That would dominate.

• 43:31Speaker 01

  Maybe.

• 43:33Tyler Cowen?

  I don't think it's a maybe. I mean, people would love to use a well-run Fed stable coin.

• 43:38Speaker 01

  Well, you added the well-run and if, then we're back to, well, it was, would grandma be calling the Fed for a retail stable coin, asking for how, what's the login again? You know, it's so.

• 43:50Tyler Cowen?

  If you can manage a payment system and prudential supervision of US banks, you can run a stable coin.

• 43:55Speaker 01

  Maybe, but like in our operation of payments.

• 44:00Speaker 01

  We're fundamentally a behind the scenes plumbing operation where you have a bank and that bank sends wire transfers a lot of times on the Fed rails. But you don't know that that's going over the Fed rails. And that I think that's fine. Like that's this is critical national security, financial infrastructure in my view. And I understand why the Fed operates that. And look, it's Edmund Burke. There is, there is, there is daylight, though twilight be long, there is a difference between day and night. And there's somewhere in there where a central bank should be doing it.

• 44:45Speaker 01

  And there's somewhere that the central bank clearly should not be doing it. And I don't know exactly where that line is, but I like safe.

• 44:53Tyler Cowen?

  How much do you think strong AI will boost rates of economic growth or productivity growth? Any number you care to give. High uncertainty, right? But if you had to make a stab at a number.

• 45:05Speaker 01

  Oh, for what time?

• 45:06Tyler Cowen?

  The next 10 to 20 years. It's not next year. It's zero for next year, right?

• 45:11Speaker 01

  I think could be a decent pick. I gave a speech at Stanford that was kind of about the topic. We have seen over the last two years, a pretty remarkable surge in productivity growth faster than the pre-COVID trend. And on the first glance, a lot of people said, yeah, of course it's faster than trend because it's going to bring us back up to the trend of where we would have been. And then it will slow down. But it didn't slow down yet. It may still, but we're actually up above the pre-COVID trend extended to the future. And there are several explanations that the economists have come up with for that, most of which are one-time explanations.

• 45:55Speaker 01

  Like people started working hybrid or working from home and that raised productivity by X percent. If you're a believer in that and you talk to Nick Bloom, Nick Bloom's in his head, he absolutely believes that. But that's a one-time. The labor reallocation and people, suddenly we had the great resignation and people could reallocate to jobs that they're better suited to. Again, one-time. An increase in the level of business dynamism. New firm creation went from whatever 100,000 to 150,000. Mostly one time. Only a new technology has the potential, I think,

• 46:40Speaker 01

  to slowly work its way through the economy, going from sector to sector. And if AI is a general purpose technology, like computers, like electricity, like telephones, that sort of thing, those played out over decades. And there's work done here at Chicago Fed looking at the industry concentration of this surge of productivity. Is it broad based or is it concentrated in certain industries? And the answer is it's concentrated in certain industries. And despite the skepticism of economists that AI is not big enough yet to explain,

• 47:18Speaker 01

  it looks to be concentrated in a bunch of tech-related AI-intensive areas. So if true, it's entirely possible that this goes like computers where first you saw the productivity growth in the computer production sector. Then five, 10 years later, you saw a surge of productivity in the computer-using sectors. And then after a decade or more, Walmart incorporates IT into the inventory management system. The rental car companies, people are equipped with handheld computers that are coming out and checking in your car.

• 48:03Speaker 01

  And you get productivity that's spread through there. So could be a high number. But so far, I think the adoption rate is not high enough to explain very big.

• 48:19Speaker 01

  And there is a risk of over anticipation of productivity growth. That if equity value surge and business investment surges in AI infrastructure type capital investment on the anticipation of the bounty that is to come. I think there's a high danger that that can, and you encounter the overcapacity, the capacity constraint problem that we always face in the short run when you get a surge of demand, or if wealth effect leads to a big increase in consumption here and now, based on these high equity valuations, again, you can, you can get overheating if you're not

• 49:04Speaker 01

  careful.

• 49:06Tyler Cowen?

  If I gave, say, a 50 question quiz to new assistant professors at top 20 departments, and I gave the same quiz to O1 Pro, how many of the professors do you think could beat O1 Pro?

• 49:20Speaker 01

  At what?

• 49:21Tyler Cowen?

  Getting the quiz right.

• 49:22Speaker 01

  What's your question? No, what, what, what's the quiz? What's the quiz?

• 49:26Tyler Cowen?

  Some's micro, some's macro, some's econometrics. You and I draw up the quiz.

• 49:30Speaker 01

  Yeah, if this is a BuzzFeed listicle, then whosever's looking on BuzzFeed is going to succeed the best on the quiz.

• 49:37Tyler Cowen?

  Analysis.

• 49:38Speaker 01

  If it's judgment, I still fundamentally, I'm skeptical of magic. And I think in my experience, where the, where the greatest opportunities arise in the short run are on things where in a way, there's not a correct answer. The hallucination problem, I think is actually an extremely damaging problem for a lot of applications of AI. And I've seen you describe.

• 50:13Speaker 01

  The joy that you felt in the being able to ask about historical, you know, what was the cause of the Boer War and, you know, and that it would answer questions. But how do you balance that off of what if it's giving you bogus answers?

• 50:32Tyler Cowen?

  I think O1 Pro hallucinates less, say, than what's in J Store.

• 50:36Speaker 01

  Okay, I hope that's true. Although the hallucinating in J Store, I don't totally, I will abide, no, I will abide, no insults to J Store. We ride at dawn, you know, this, that's a hill I'll die on. But the thing is, you are old enough to remember, as am I. Before there were laser printers, there were those dot matrix printers.

• 51:01Tyler Cowen?

  Sure.

• 51:01Speaker 01

  And the thing is, the essence was adding more and more dots. And the advocates for, of dot matrix printers, they would say, this is so, there's so many dots, you can't even tell that this is not a typewriter. Only the thing is, you could. You would look and say, no, no, look, this is better than it used to be, but I can tell this isn't a typewriter. No, you can't. And it says, no, you can't. It's indistinguishable. If I say to AI's biggest advocates, here have been some exciting use cases, but here have been ones that I've found troubling.

• 51:44Speaker 01

  They usually, if your first reaction is to say, well, what version did you use? That's, to me, kind of the dot matrix printer problem. So you're going to steer me to O1 Pro. All we're going to identify is that I'm too cheap to shell out the money for the higher and higher levels.

• 52:03Tyler Cowen?

  The Fed won't pay it for you.

• 52:05Speaker 01

  It's true. I'm going off of these older ones that are free or cheap. But I don't accept that it's like, oh, well, if you just upgrade to the higher priced one, then those hallucination problems would stop. So far, they've got to work on that side of the of the equation. Otherwise, it still could have amazing impacts. But it's just, there are some things for which making a mistake is kind of an unforgivable error. You see what I mean? Like, you got to change the penalty function in that thing.

• 52:40Tyler Cowen?

  But I mean, put aside opinions on AI. Just think of your knowledge as an economist, econometrician. You can just run a few AI models and aggregate and get rid of almost all the hallucinations that way. You can do that now. It costs a little more. But it's obvious you can get hallucinations down as much as you want.

• 52:58Speaker 01

  You're getting dangerously close, I think, to the position that if we have enough observations, then we have solved the causality problem. All we need, if we get enough observations, we'll just be able to predict anything with 100% accuracy. And I don't know if it's flies too close to the sun. I'm not sure what what just happened there. Did I?

• 53:24Tyler Cowen?

  Red hearts.

• 53:25Speaker 01

  Was that motion?

• 53:26Tyler Cowen?

  It created hearts. I think that's from your system. The Chicago Fed loves us.

• 53:31Speaker 01

  My heart, I believe that you better, you better be, you better be careful. And here's my second question about AI and its impact on productivity. How much of the improvement in AI? I'll tell you, the thought experiment I like to do is to ask, what jobs would be replaced with the AI that exists right now, not extrapolating it forward? Because a lot of the grandest dreams for AI and rapid adoption, I think, are premised on extrapolating a growth

• 54:09Speaker 01

  rate. And to the extent that some of the improvement in AI is not coming from improvements of AI theory, or new algorithms, but instead from bigger and bigger data sets, and more and more computing power.

• 54:30Speaker 01

  Data sets and computing power have diminishing returns that will kick in pretty quickly. So it would behoove us to remember that there was a time 15 years ago when self-driving cars were improving so rapidly that people were predicting that within five years, there would not be a single professional driver in the United States. And then basically what happened is the rate of improvement didn't go negative. It didn't go to zero. It just slowed way down. And now we're having some self-driving taxis in different cities, but we're nowhere near what 15 years ago,

• 55:12Speaker 01

  there was a group of of real advocates who said by 15 years from now, people are going to be like, Dad, what do you mean? People used to drive their own car. How dumb were people? We're still a long, long way from that.

• 55:26Tyler Cowen?

  How should we reform the MBA, Business Graduate Education? You're an expert on that.

• 55:31Speaker 01

  I'm only an expert in that I taught the MBAs and I taught a class on platform competition. And I had hundreds and hundreds of students over the years. And the MBA, I found the MBAs to be very data-minded and very intellectually curious. Now, it might be the University of Chicago MBAs are a high-powered group. I think the market for MBAs, as you know, all the pressures on the opportunity cost side, trying to shorten the programs. There are new master's programs in finance and management and things that are that are one year in nature or a year and a half in nature.

• 56:16Speaker 01

  But I think the MBA, whether you use it as a market test, what does the market demand? Or you just go look at the content of of what people know. I think it's a pretty, pretty well-functioning market. It's a valuable degree and it teaches a lot of skills.

• 56:34Tyler Cowen?

  Final question. What's the story of how you beat Ted Cruz as a debater? And he was a national champion, as were you, right? But how was it you won?

• 56:43Speaker 01

  Well, I was big at speech and debate. I was in high school speaking and then went to college and I was a year older than Ted. We, my partner and I, we were the national team of the year and Ted and his partner were second. And the thing is, I kind of had kryptonite on, on poor Ted, which was when we would debate, you don't debate face to face, there's a judge. And Ted was an excellent debater and his greatest strength was plotting. We'll say this and that'll lay a trap and get them to say this

• 57:24Speaker 01

  and then we'll respond, you know, in this way. And his weakness was thinking on his feet and especially if he got mad. So I would, to the judge, kind of start teasing. I would tell jokes at Ted's expense and many of our rounds would end with Ted red in the face, right? How dare you? We got him again. You know, so that was the, that was the secret.

• 57:51Tyler Cowen?

  Austin Goolsbee, thank you very much.

• 57:53Speaker 01

  Tyler, you come to Chicago, I'm gonna have to take you on the food tour. I have for many decades followed your advice and I got some great places out here that are gonna be right up your alley.

• 58:05Tyler Cowen?

  That would be great. Thanks so much.

• 58:07Speaker 01

  Thank you.

• 58:11Tyler Cowen?

  Thanks for listening to Conversations with Tyler. You can subscribe to the show on Apple Podcasts, Spotify, or your favorite podcast app. If you like this podcast, please consider giving us a rating and leaving a review. This helps other listeners find the show. On Twitter, I'm @TylerCowan and the show is @CowanConvos. Until next time, please keep listening and learning.