The Fed in the awkward position of being “out of bullets” well before its economic goals have been achieved ?

What now for monetary policy?

by John H. Makin

Now, with the Great Moderation having been disrupted by a global financial crisis and a five-year period of virtual policy extemporization by the Fed, with mixed results at best, the time has come to ask: what should and can we expect from monetary policy? The answers may disappoint some.
One hundred years after its founding, the Federal Reserve’s policy activities are proving to be quite different than originally envisioned. Although the Fed’s original purpose was primarily to provide liquidity during financial crises and ensure a low and stable rate of inflation, it is now expending more energy on targeting lower unemployment and higher growth. Monetary policy, however, is ill-suited to achieving these goals. The next Fed chair needs to turn the rising tide of dissatisfaction with Fed policy by returning it to its primary purpose of controlling inflation and reducing uncertainty.

Key points in this Outlook:

• The role of the Fed has evolved over the past 100 years from its original task of providing liquidity in times of financial crisis to include ensuring a low and stable rate of inflation since World War II and encouraging full employment after the passage of the Full Employment Act of 1978.
• In the aftermath of the 2007–08 financial crisis, the Fed has emphasized the goal of full employment and has, since 2012, committed to a zero interest rate target until unemployment falls at least to 6.5 percent.
• These targets are not all achievable given the Fed’s available policy instruments, and the result is rising disillusionment over the Fed’s capability.
• The next Fed chair needs to remind markets that the Fed’s primary responsibility going forward is ensuring low and stable inflation while reducing the uncertainty that plagues the economy.

...................

Read more: www.aei.org