Must-Read: At least as I read the FOMC these days, they are passive because they are uncertain. "What can we do?" they ask. "Given the likelihood that we will break things when we do things we do not fully understand, what benefit-cost analysis suggests a positive expected outcome from doing things that would have been regarded as... highly unusual... even a decade ago?" It is an argument that gives one powerful pause. It leads, I think, to the conclusion that we need to rely on fiscal policy. And it leads, I think, to the conclusion that we need to think much harder about fiscal policy: fiscal policy needs to become more sophisticated: we need to set out:
- a long-run "normal" value for the annual debt-to-GDP ratio,
- a short-run currently-desirable value for the annual debt-to-GDP ratio,
- a plan to get from where we are now to where we should be in the short run, and
- a plan for (after we get there) starting from the short-run optimal value how to get to the long-run "normal" value...
Gauti Eggertsson, Neil Mehrotra, and Jacob A. Robbins: To accommodate or not: The Federal Reserve’s new normal http://voxeu.org/article/accommodate-or-not-federal-reserve-s-new-normal: "Current [monetary] policy may be at or close to the natural rate...
...the forces that have led to the low rates are unlikely to be reversed in the immediate future.... [It] is not that the zero lower bound will be binding forever with certainty; a world of low natural rates admits business cycles in which the short-term rate can still be temporarily positive. However, it is a world characterised by a new normal, in which real interest rates need on average to be negative to achieve full employment.... [However,] several measures that could eliminate secular stagnation....
A serious challenge, however, is that our policy recommendations advocate in favour of policies that were considered vices rather than virtues in macroeconomic theory: a higher inflation target, persistent increases in the debt-to-GDP ratio, or even more generous pay-as-you-go social security. This poses a new set of tradeoffs for policymakers, who cannot know with certainty if we are indeed in a ‘new normal’ or just in a prolonged period of low interest rates that will abate in the near future.
