Moral suasion is the practice of influencing a person or group to act in a certain manner through rhetorical tactics, persuasion, or implicit and explicit threats, rather than resorting to direct coercion or physical force. In the realm of economics, it is frequently used to refer to the actions of central banks.
Key Takeaways
- Moral suasion endeavours to persuade through rhetorical tactics or implicit threats, steering clear of direct coercion or physical force.
- In economic contexts, central bankers often use moral suasion to direct market and public sentiment, asserting their control over the economy and readiness to act if required.
- Much of this moral suasion involves verbal gestures and signaling through central bank minutes, with analysts and journalists interpreting these actions.
- A notable example of moral suasion is the New York Federal Reserve’s intervention in the bailout of Long-Term Capital Management (LTCM) in 1998.
Understanding Moral Suasion
Anyone can, in theory, leverage moral suasion to influence someone else’s behavior or attitude. Within an economic framework, it is primarily associated with central bankers’ persuasive tactics, both public and private. Often dubbed simply as “suasion,” the motives behind it might not always be altruistic, frequently aligning with specific policy goals.
In the United States, this practice is colloquially referred to as “jawboning”—essentially, talk rather than other forceful measures the Federal Reserve (Fed) could deploy. Efforts by central banks to affect inflation rates without open market operations are sometimes called “open mouth operations.” Given the years of low interest rates and aggressive monetary strategies, central banks now have limited tools, necessitating this form of influence.
‘Fedspeak’
Moral suasion can operate both publicly and in private settings. Fed chair Alan Greenspan’s 1996 remark on “irrational exuberance” is a textbook example of the Fed’s moral suasion efforts. However, when asset prices cratered in 2000, Greenspan faced criticism for inadequate measures to curb the 1990s’ exuberance.
Recently, the Fed has engaged more openly with the public, possibly to increase transparency or capitalize on the power of moral suasion. Greenspan’s “constructive ambiguity” approach gave way to Ben Bernanke’s clearer communication strategy. Bernanke introduced press conferences in 2011, influenced by Janet Yellen, advocating clearer Fed policy communications.
With its limited ability to cut interest rates—near zero from December 2008 to December 2015—or expand its balance sheet, the Fed has increasingly depended on persuading markets of its steadfast support for a sustained economic recovery through mere words.
Moral suasion isn’t exclusive to the United States. In 2012, European Central Bank (ECB) president Mario Draghi pledged to do “whatever it takes” to maintain the euro, stabilizing the beleaguered currency and encouraging its recovery.
Moral Suasion Example
A prominent instance of moral suasion is the New York Federal Reserve’s intervention in the 1998 bailout of Long-Term Capital Management (LTCM).
LTCM was a remarkably successful hedge fund in the 1990s, posting impressive high-double-digit annual returns. However, it was heavily leveraged, with about $30 of debt for each dollar of capital at the end of 1997. The Asian financial crisis plunged LTCM into crisis mode, sparking fears that a fire sale of assets would drive down prices, leaving major Wall Street banks—its creditors—with largely unpaid loans.
Rather than directly infusing public funds, the New York Fed organized a meeting with three lending banks to LTCM, ultimately achieving a coordinated rescue effort that the Fed managed without financial involvement. In the end, 14 banks participated in a $3.6 billion bailout of LTCM, which was liquidated two years later with a slight profit for the banks.
The New York Fed’s action drew criticism for ostensibly suggesting LTCM was “too big to fail.” Yet, their pressure on banks to fund the bailout was perceived as a less heavy-handed and potentially less damaging alternative to more forceful interventions.
Related Terms: jawboning, open mouth operations, interest rates, inflation, central banks, Fedspeak.
