Here is the full text of my 10th Quartz column, “Read his lips: Why Ben Bernanke had to set firm targets for the economy,” now brought home to supplysideliberal.com. It was first published on December 13, 2012. Links to all my other columns can be found here.
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© December 13, 2012: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
The Fed has announced for the first time what levels of unemployment and inflation would lead it to keep short-term interest rates close to zero:
In particular, the Committee decided to keep the target range for the federal funds rate at 0 to ¼ percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-½ percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee’s 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored.
There are several remarkable aspects to this sentence. First, the Fed is saying more clearly than ever before that 2% is its long-run inflation target. Second, it is saying it thinks the unemployment rate can be brought down at least as far as 6.5% without causing too much inflation, though it will keep a close watch on where inflation seems to be headed to make sure. Third, the Fed is saying it is willing to tolerate inflation temporarily above 2% if that is what it takes to bring the unemployment rate down that low.
I applaud this move by the Fed. Although the Fed said, “The Committee views these thresholds as consistent with its earlier date-based guidance,” I am not so sure. It is not that easy to know how long it will take for the economy to recover. Specifying the actual economic indicators that the Fed is looking at, and how it is reading them, is much better. Saying specific dates had the danger of suggesting the Fed would keep interest rates low for too long if the economy recovered more quickly than expected. This danger was significant because an important line of thought has suggested that the Fed should promise to overheat the economy in the future to stimulate the economy now. The specific guidepost for unemployment and inflation that the Fed has laid down in yesterday’s statement make it clear that the Fed is not promising to overheat the economy in the future to stimulate the economy now. But those guideposts also make it clear that the Fed intends to continue to do what else it feels it can to return the economy to the lowest level of unemployment consistent with steady inflation.
There are things that the Fed could do to get the economy more quickly to robust health. Most obviously, there is no reason that the Fed should limit its purchases of additional long-term treasury bonds and mortgage bonds to the $85 billion per month rate it has announced. But to take the chains off of monetary policy, the best thing for the Fed to do would be to urge Congress to give it the authority to subordinate paper money to electronic money to eliminate the “zero lower bound” that paper money puts on short-term interest rates, as I discuss in “How paper currency is holding the US Recovery Back” and “Could the UK be the first country to adopt electronic money?”