Monetary policy: How unusual is Fed policy?

Posted: July 3, 2014 in economy
Tags: , ,

UNEMPLOYMENT dropped to 6.1% in today’s non-farm payroll numbers, the lowest level for six years. The recent data have been a little bewildering to put it mildly; first quarter GDP showed an annualised 2.9% decline. It is very rare for the US economy to have an isolated one quarter drop, except in the aftermath of a recession; the last occasion was 1973 (some would count Q1 2011 but that seemed like the tail end of the last recession).

Still the markets are treating the data as if the US economy is rebounding strongly. If that is the case, then are low Fed rates appropriate? Back in September 2008, when unemployment was last at this level, the Fed funds rate was 2% (and on its way down). Mind you, inflation was a lot higher at 4.9% (albeit, about to fall very sharply). A better comparison would be September 2003, when unemployment was 6.1% and inflation 2%; then the Fed funds rate was just 1%. Of course, that rate looks way too low in the light of subsequent events., and may well have stoked the housing bubble.How does policy look over the longer term? The misery index, which adds inflation to unemployment, isn’t the right comparison. Instead, I deducted unemployment from inflation. If inflation is high and unemployment low, one would expect rates to be high; if inflation is low and unemployment high, rates should be low. As you can see there is a rough relationship …

via Economic Crisis http://ift.tt/1mbP1PO

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