Economist Janet Yellen discussed the complementary roles that math and intuition play in setting monetary policy for the United States when she delivered the final Tercentennial talk in the Graduate School's "In the Company of Scholars" lecture series.

In her talk, titled "The Art and Science of Central Banking," Yellen acknowledged that she learned the science of economics during her Graduate School days at Yale from such distinguished faculty members as William Brainard and Nobel laureate James Tobin.

"The basic principles are exactly the ones that I learned here at Yale," she noted. "There are just a few new theoretical bells and whistles, particularly more sophisticated handling of expectations. The core theory is still intact after 30 years of controversy and debate. The essentials of the 'Yale approach' constitute the framework that is now routinely employed in both academic research and policy analysis. The theory is grounded in Keynesian economics and clearly shows that monetary policy can enhance economic performance."

Her initiation into the "art" of monetary policy began when President Bill Clinton appointed her as a governor on the Board of Governors of the Federal Reserve System in 1994. She served in that capacity until 1997 and has continued to study monetary policy by observing the choices made by Alan Greenspan. "Greenspan ranks as one of the foremost artistes in this field," she said.

Yellen attributed the excellent macroeconomic performance of the 1990s to a three-part approach taken by the Federal Reserve: "an aversion to unemployment and inflation," which kept both in check; Greenspan's "aptitude for adjusting monetary deals"; and his successful "gamble that the United States was less inflation-prone" than it had been in previous decades.

She asserted in broad terms that the purpose of economic policy is "to promote public welfare," and explained some of the "secrets of the temple" -- the workings of the Federal Reserve.

Pointing out that it is difficult to balance inflation and unemployment because lowered inflation inevitably leads to higher unemployment, Yellen contended that the extraordinary success of the U.S. economy in the 1990s was due, at least in part, to the fact that fiscal policy succeeded in keeping both low and steady. "The Feds split the benefits between lower inflation and lower unemployment. They took a gamble, and it paid off," she said.

Increased productivity was another major contributing factor to the economic boom of the second half of the 1990s, she said. Although "not evident in standard tests," she noted, Greenspan observed a small but significant trend that is obvious today, looking back on the period, but seemed inconsequential at the time. "Greenspan intuited that computers and information technology were actually transforming American business and boosting productivity growth, but when he tried to look for hard data to point to, it just wasn't there," she said. Greenspan relied on his intuition in setting monetary policy, added the alumna, and in the end, the numbers bore out his instincts.

In contrast, the stock market bubble of the 1990s which has now burst is leading the economy into what Yellen called a "liquidity trap" similar to the situation in Japan over the past decade. Yellen suggested that with the economy weakening rapidly, the Federal Reserve might cut the prime lending rate all the way down to zero.

Looking at the looming economic challenges of the immediate future, Yellen stressed the importance of long-term fiscal discipline, but also argued in favor of short-term stimulus to the economy. In practical terms, that might translate to a temporary rebate of payroll taxes for low-income wage-earners, a temporary cut in sales tax, or an investment tax credit for businesses that are purchasing equipment, she said.

Yellen, an elected member of the Yale Corporation, earned her Ph.D. in economics from the Graduate School in 1971. She joined the faculty of the Haas School at the University of California at Berkeley in 1980, where today she is both professor of economics and the Eugene E. and Catherine M. Trefethen Professor of Business Administration. From 1997 to 1999 she chaired Clinton's Council of Economic Advisers.

Yellen has served as an adviser to the Congressional Budget Office, the Brookings Panel on Economic Activity and the National Science Foundation's Panel in Economics.

In the early 1970s, Yellen's work provided one of the first explanations for "commodity bundling," the practice that played a central role in the anti-trust case against the Microsoft Corporation. Her work in the 1980s, addressing the reasons why Federal Reserve policies affect economic growth and employment, earned her a reputation as one of the nation's leading macroeconomists. Her research on U.S. social policy in the 1990s proposed ground-breaking explanations for the behavior of teen gangs and for the rise in out-of-wedlock births. Her current research interests include monetary and fiscal policies, labor markets, and international trade and investment policy.

Recognizing her many achievements, the Graduate School awarded her its highest honor, the Wilbur Cross Medal, in 1997.

--- By Gila Reinstein

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