Econoblog: What should the Fed do? What will the Fed do?

I did a Wall Street Journal Econoblog with Barry Ritholtz of The Big Picture today.  The question we discuss about is:

In two weeks, the Federal Reserve Board will hold its two-day June meeting and will be considering what could be the ninth increase to the central bank's target for the federal-funds rate -- the rate charged on overnight loans between banks and the key to the rates charged on a variety of consumer and business loans.

Led by Chairman Alan Greenspan, policy makers have raised the rate from 1% last June to the current 3%, in hopes that a slow and steady increase can prevent slowing productivity growth and increased business pricing power from spiraling into inflation.

What will the members of the board do when they get together in June and at the four remaining meetings this year, and what should they do? Bloggers Mark Thoma, of the University of Oregon, and Barry Ritholtz, of Maxim Group, consider the possibilities.

Here’s the link to Econoblog.

The position I take supports inflation targeting and continued rate increases through the next two meetings unless the data change dramatically. I support inflation targeting because I believe it is the best means available to stabilize the economy over the entire cycle. It is always hard to repay the debt when times are good; similarly it is always politically difficult to raise rates during a recovery and the Fed is often accused of shaving the peak off the boom.

But isn’t that the point of stabilization policy, to stabilize about the natural rate from both sides? To shave the peaks and fill in the valleys? My goal is stable employment over the cycle. I don’t believe that monetary policy has much to do with the long-run natural rate of output or unemployment, so problems concerning long-run issues are left to policies addressing economic growth. I do believe monetary policy has a role to play in reducing economic risk through stabilization. But I suspect I disagree with a lot of you about the best means of accomplishing that. I believe inflation targeting helps to remove price distortions thereby improving resource flows. This in turn stabilizes output and employment. If somebody can convince me that another operating procedure will work better than inflation targeting, and my mind is entirely open on this, please do.

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