The Federal Reserve is right now at the zero lower bound. That means that if it wants to lower interest rates and so stimulate the economy, it can't. But if it wants to raise the interest rates and so cool-off the economy, it can.
Suppose the Federal Reserve were to raise interest rates over the next year--and decide a year and a half from now that it had made a mistake. It then could end the additional damage from inappropriate monetary policy by returning interest rates to zero. But it could not repair the damage by pushing interest rates down any further in order to offset the needless contraction it would have forced on the economy.
Suppose the Federal Reserve were to keep interest rates where they are at zero over the next year--and decide a year and a half from now that it had made a mistake. It then could end the additional damage from inappropriate monetary policy by raising interest rates. And it could repair the damage from too-low interest rates by raising interest rates faster and so neutralizing the needless stimulus it would have given to the economy.
Thus as long as there is a reasonable chance that raising interest rates is the wrong policy, the Fed should not raise them. At the zero lower bound, the right policy is to be behind the curve in raising interest rates. Elementary optimal control. Elementary asymmetric risks. Whatever you call it, it is not brain surgery--or rocket science.
Yet we have the very sharp Stan Fischer saying:
U.S. Economy and Monetary Policy: "There remain additional forms of slack...:
...not fully captured by the standard unemployment rate... labor force participation... people... working part time but would prefer to work full time.... nominal wage growth... subdued. Real wage growth has also been subdued.... The last two months saw slower reported payroll gains of about 140,000 per month.... Gross domestic product (GDP) growth in the first half of 2015... 2-1/4 percent... projecting... 2 percent in the second half [thus undershooting expectations as of January].... Inflation... well below the FOMC's 2 percent objective....
In its statement... the FOMC noted that it anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to 2 percent over the medium term.... In advance of the September meeting, most participants, myself included, anticipated... an initial increase in the federal funds rate later this year... raising short-term interest rates at a gradual pace over the next few years.
However, that is an expectation, not a commitment.... Depend[ing] critically on future developments... we would adjust the stance of policy in response.... We do not currently anticipate that... recent developments... will... have a significant effect on the path for policy...
I must say that they are not doing too well at the clear-communication part. I want to see one of following things in Fed statements:
We will begin raising interest rates in December at a pace of basis points per quarter, unless economic growth and inflation fall substantially short of our current forecast expectations.
We will delay raising interest rates until we are confident that it will not be appropriate to return them to the zero lower bound after liftoff.
If we had one of these, we would know where we stand.
But Stan Fischer's speech provides us with neither.
That leaves me surprised by Fischer's conclusion:
We remain committed to communicating our intentions as clearly as possible--but not more clearly than the facts warrant--to assist market participants, be they in the private or the public sector, in understanding our intentions as they make their investment decisions.
The fact that we have not had clear communications suggests to me that there is considerable disagreement within the FOMC, papered over by statements that some interpret as really meaning (1) and others interpret as really meaning (2). And that makes me think that the FOMC needs some serious restructuring...