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Two things especially struck me about today's announcement. First, the Fed is now forthright that it is targetting the unemployment rte. The problem is, of course, that it doesn't control the unemployment rate.

Second, the inflation target has all but been abandoned. Two-percent inflation, which used to be the ceiling is now described as the floor in today's announcement.

Mervyn King, the outgoing Governor of the Bank of England, gave a speech at the New York Economic Club in which he bemoaned the fact that central banks are engaged in competitive currency devaluation in an effort to stimulate economic growth. He clearly anticipated the Fed's move today.

Jerry,

The question I have is why are so many who are generally on our side of the fence so supportive of many of the policy moves taken and argue that these actions are not distortionary?

Pete

They believe that there is an aggregate demand deficiency caused by a money supply deficiency -- ie for various reasons they think the economy is suffering from the problem that Milton Friedman diagnosed in the early 1930s in the US during the Great Depression.

"The question I have is why are so many who are generally on our side of the fence so supportive of many of the policy moves taken and argue that these actions are not distortionary?"

@Pete

You read Scott Sumner blog too, right? Also Friedman argued for expensionary monetary policy in japen, even at the ZLB.

Monetarist are libertarians too.

@Steve

What would you have the FED do?

As long as there is a fed, I think that a NGDP target is a good choice, I doute however that going back to a pre trend path is a bad idea (even Scott Sumner agrees with that) they should just start a new path from where we are now, something around 3-5% would do for now.

I agree with the Market Monetarist insofar that I think a credible target is importent, unemplyment however is the worst target they could pick.

If this goes on, the Fed and Fannie Mae will soon be offering a free house to anyone who asks.

Jerry wrote"

"Two things especially struck me about today's announcement. First, the Fed is now forthright that it is targetting the unemployment rte. The problem is, of course, that it doesn't control the unemployment rate.

Second, the inflation target has all but been abandoned. Two-percent inflation, which used to be the ceiling is now described as the floor in today's announcement."

The merits (or lack thereof) of the current Fed policy aside, this is a misleading post.

First, 2% inflation was NEVER the "ceiling". Google Ben Bernanke's press conference over the past few years. He has always maintained that 2% was a symmetrical target, not a ceiling. Many of his critics (coming from the point of view of wanting more Fed action) have argued that Bernanke has been treating the 2% target as a ceiling, and he has vociferously denied this on many occasions.

Second, today's announcement did not describe 2% inflation as a floor. 2% inflation is still, as it has been, a symmetrical target. By definition this means that if the Fed hits this target inflation will sometimes exceed 2%.

As to whether the Fed is now targeting unemployment, I don't think so.

Pete,

That's a big question. The short answer is they have a bad theory.

When the idea of inflation targeting came into vogue, the range of 0-2 percent was chosen because of alleged "frictions." Look at the law in New Zealand, which was the precursor to all other efforts at inflation targetting.

Lee Hoskins, former president of the Cleveland Fed, always said that zero inflation meant just that: zero inflation on average. The risk of 2 percent deflation should be the same as the risk of 2 percent inflation. I agree.

After completing his three-volume history of the Fed, Allan Meltzer concluded that the Fed almost always was focused on employment (or unemployment). Exceptions were rare, as in the 1980s, when inflation got very high and popular sentiment turned in favor of an anti-inflationary policy.

I said the Fed was now "forthright" about what they were doing. Those who question this are ignoring history and denying the plain wording of the policy statement.

Friedman always advocated a monetary rule. His comments about Japan were directed at whether the JCB had the technical means to expand the money supply. Which, of course, they did.

I largely agree with Michael.

I would note that since after 1985 Taylor argued that the Fed was following his "rule," despie protestations by Greenspan to the contrary, which effectively views both unemployment (or more precisely growth) and inflation equally. Offhand, this new announcement looks to be in the spirit of the Taylor Rule, if not formulated as it is, even though more people are calling it a triumph of Sumnerian NGDP targeting. it looks to be a sort of combination of the two.

In any case, if Taylor is right, the Fed effectivly treated the two about equally for a long time until it essentially went off the Taylor Rule nearly about a decade ago.

And as for the 2% inflation target, never and still not officially a Fed target, although widely believed with good reason to be its unofficial de facto target, the vast majority of central banks around the world that officially target inflation use the 2% number, for better or worse.

Oh, and near the end Milton Friedman did finally abandon strict monetary targeting as his preferred policy tool, albeit reluctantly and sadly. He then shifted to supporting formal inflation rate targeting.

Barkley,

I thought Bernanke did (for the first time) make 2% inflation an explicit target a couple of years ago?

It was certainly never an official (or unofficial) ceiling.

I think this may be a good "natural experiement." Is it possible to revive the economy in this way without creating bubbles or other distortions, even if there is no outright inflation of a great magnitude? I look forward to the results.

"I look forward to the results."

I sure as hell don't.

Has anyone tried to estimate the costs, in employment/unemployment terms, of a controlled FED tightening?

I cannot help but think at this stage monetary policy has no significant positive affect on employment levels. In fact I suspect we're approaching the period where it might have counter productive affects.

Michael,

Bernanke has advocated a 2% inflation target in his own writings, but it has never been formally adopted by the Fed. Nevertheless, pretty much everybody has assumed that at least since he became Chairman, it has been the de facto inflation target, if it was not alread so earlier.

Barkley,

I thought this suggested that 2% long run inflation was the Fed's official policy now:

http://www.reuters.com/article/2012/01/25/us-usa-fed-inflation-target-idUSTRE80O25C20120125

"
The Federal Reserve took the historic step on Wednesday of setting an inflation target, a victory for Chairman Ben Bernanke that brings the Fed in line with many of the world's other major central banks.

The U.S. central bank, in its first ever "longer-run goals and policy strategy" statement, said an inflation rate of 2 percent best aligned with its congressionally mandated goals of price stability and full employment."

As long as we have a Fed, it seems unambiguously clear to me that it should at least allow markets to clear. In a labor market with some stickiness and non-wage compensation growing at several percent per year, I suspect that even 2% inflation makes it difficult for all labor markets to clear easily. And, with real short term rates well below zero, we need more inflation in order for the market in short term bonds to clear.
These are de facto price floors/ceilings which inflation can help to avoid.

Michael,

OK, now 2% is the official target, but only as of Wednesday, with 2 and half where they will intervene, even if unemployment still above the trigger point (presumably then also not a "target"). The earlier 1.7-2.0% range is described as having been "informal."

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