The 1960s was characterized by the unemployment obsession. The 1962 Economic Report of the President (ERP) is clear on that point:
Unemployment of 4 percent is a modest goal, but it must be emphasized that it is a goal which should be achievable by stabilization policy alone. Other policy measures, referred to in the next section and discussed in detail in Part II of this chapter, will help to reduce the goal attainable in the future below the 4 percent figure. Meanwhile, the policies of business and labor, no less than those of Government, will in large measure determine whether the 4 percent figure can be achieved and perhaps bettered in the current recovery, without unacceptable inflationary pressures.
And this is how things evolved over the decade:
By the end of the decade we read in the 1969 ERP:
THE REMARKABLE ACHIEVEMENT of prosperity as the normal state of the American economy has been recorded in Chapter 2. Recent price performance has been far less satisfactory. Since 1965, prices have been rising too rapidly. The history of both the United States and other industrial nations shows that high employment is generally accompanied by inflationary tendencies, and that when prices are reasonably stable, this is at the cost of too many idle men and idle machines. The record of the past poses the critical challenge of the years ahead. Reconciling prosperity at high employment with price stability is the Nation’s most important unsolved problem of over-all economic performance. Though the United States has done better than most industrial countries, its record is far from adequate. That record can and should be improved by measures discussed in this chapter.
We know that the inflationary tendencies got the better of things, so that the decade of the 1970s, known as “The “Great Inflation” looked very different from the 1950s and 60s.
The “Great Inflation”, which followed the “unemployment obsession”, morphed into the “Great Moderation”. The lesson learned was that sustained inflation arose from expansionary monetary policy so monetary policy should prevent the emergence of sustained inflation rather than having to respond to its emergence. In the words of Robert Hetzel, monetary policy should provide an environment of nominal expectational stability.
And that´s exactly what the “Great Moderation” reflected, with nominal spending (NGDP) evolving close to a stable level path. And there was a time Bernanke believed that was true!
And suddenly all was lost. Why? Forget the house price bubble, the financial crisis and even the oil/commodity shock of 2007-08. All those things taken together could be responsible for at most a run of the mill recession, but the “lesser depression” that ensued has bad monetary policy written all over it. And the bad MP was the direct result of Bernanke´s (and the FOMC´s) obsession with inflation.
As late as the June 24 2008 FOMC meeting we read in the minutes that (note the consequences of the mistaken view of judging the stance of MP by the level of the policy rate):
Some participants noted that certain measures of the real federal funds rate, especially those using actual or forecasted headline inflation, were now negative, and very low by historical standards. In the view of these participants, the current stance of monetary policy was providing considerable support to aggregate demand and, if the negative real federal funds rate was maintained, it could well lead to higher trend inflation.
In this view, a significant portion of the easing in monetary policy since last fall was aimed at providing insurance against the risk of an especially severe weakening in economic activity and, with downside risks having diminished somewhat, some firming in policy would be appropriate very soon, if not at this meeting. However, other participants observed that the high level of risk spreads and the restricted availability of credit suggested that overall financial conditions were not especially accommodative; indeed, borrowing costs for many households and businesses were higher than they had been last summer.
In the Committee’s discussion of monetary policy for the intermeeting period, members generally agreed that the risks to growth had diminished somewhat since the time of the last FOMC meeting while the upside risks to inflation had increased…Conditions in some financial markets had improved, but many financial institutions continued to experience significant credit losses and balance sheet pressures, and in these circumstances credit availability was likely to remain constrained for some time.
At the same time, however, the near-term outlook for inflation had deteriorated, and the risks that underlying inflation pressures could prove to be greater than anticipated appeared to have risen. Members commented that the continued strong increases in energy and other commodity prices would prompt a difficult adjustment process involving both lower growth and higher rates of inflation in the near term. Members were also concerned about the heightened potential in current circumstances for an upward drift in long-run inflation expectations. With increased upside risks to inflation and inflation expectations, members believed that the next change in the stance of policy could well be an increase in the funds rate; indeed, one member thought that policy should be firmed at this meeting.
And the obsession with inflation was a hallmark of all major central banks, so that MP was contractionary all around, increasing the severity of the recession. The Central Banks banded together and cried out: “One, two , three, GO”!
But in Japan what goes down stays down!