What should the Fed do?
NGDP level targeting
But what should the Fed do right now?
NGDP level targeting
OK, but they won’t. So what should the Fed do to interest rates right now?
Set the target rate consistent with 4% NGDP growth
But what is the target rate consistent with 4% NGDP growth?
How should I know? They are the geniuses that think interest rate targeting is a sensible policy tool. Not me. Let them figure out how to use this supposedly effective policy tool.
Consider the following two possible scenarios:
1. The Fed sets the perfect fed funds target, like an Olympic gymnast nailing a landing. But it does poorly on forward guidance.
2. The Fed botches its interest rate setting, but issues sensible forward guidance.
I’d take the second scenario in a heartbeat.
PS. Two things to keep in mind:
1. The market is never wrong.
2. The market is always wrong.
If you can grok the sense in which both of these are true, you will be able to achieve a deeper perspective when thinking about the economy. I.e., the market is always the optimal forecast, but things never turn out exactly as forecast.
PPS. Here are two more:
1. What matters is changes in asset prices.
2. What matters is levels of asset prices.
The change matters for how we should change our view of the situation. Levels matter for how we should form our view of the situation.
PPPS. Part of today’s selloff may be an investor reaction to the BOJ moving back to its pre-2013 deflationary monetary policy, for reasons I’ll never understand.