Either way, the Obama Administration will be “condemned”.
But Mark Thoma (via econospeak) sort of implies there is one:
Martin Feldstein is worried that the Federal Reserve will not reverse its increase in the monetary base even as we approach full employment.
Ed Lazear wants us to believe that the economy could have continued to grow by 3.4% per year since 2007QIV… In other words, Lazear wants us to believe that the current GDP gap is 12%. …
James Bullard is also convinced that the gap is smaller than most people believe, and that the Fed’s commitment to keep interest rates low through the end of 2014 is harming the economy.
So Mark argues:
Bullard seems to be setting the stage to call for the Fed to abandon its interest rate commitment, e.g. statements such as “low interest rates hurt savers” (see here on this point).
I think that would be a mistake. How much uncertainty does Bullard have around his estimate of potential output? If it’s not a substantial amount, it ought to be and the best policy in the face of such uncertainty is to lean against the more costly outcome (it also seems to me that he has chosen a forecast with one-sided errors — it’s unlikely that potential output is much lower than his current estimate, but it could be much higher). As I’ve been stressing recently (along with Stevenson and Wolfers, DeLong, and others), since high unemployment is far more costly than a temporary bout of inflation, policy ought to be directed primarily at the unemployment problem. If and when there are signs that inflation is increasing, and that labor markets are close to full recovery, then the Fed can start laying the groundwork for interest rate increases prior to 2014. But any talk of easing off its commitment before then and the loss of credibility that comes with it would be, to echo Bullard’s term, counterproductive.
The basis for this argument, shared by the others he mentioned, is that “high unemployment is far more costly than a temporary bout of inflation”. But is that true? Tyler Cowen recently wrote this:
The greater the number of protected service sector jobs in an economy, the more likely those citizens will oppose inflation. Inflation brings the potential to lower real wages, possibly for good. How many insiders, if they had to renegotiate their current deals, would do just as well?
Get the picture?
This is a neglected cost of protected service sector jobs, namely that the economy’s central bank will face strong political pressures not to inflate even when a looser monetary policy would be welfare-improving.
Perhaps we have lost the ability and the political economy to support inflation when needed.
I´m reminded of the 1970s when, alternatively, Arthur Burns worried about unemployment and inflation. The end result was an INCREASE in both!
But as Scott Sumner argues, Tyler´s comment
… is an argument for switching from inflation to NGDP targeting. But it is also a strong argument for relying more on monetary stimulus than fiscal stimulus. After all, which institution is more susceptible to public pressure against inflation, and which is more shielded from that pressure? Would you rather have to face re-election every 2 years, or every 14 years?
Maybe that´s the solution. At least it would contribute to stop the partisan bickering and bring some hope that we really could get out of this predicament.