Thursday, September 22, 2011

John Taylor: Abandon the employment goal to reach it

Scott Sumner posted on John Taylor's piece in Bloomberg the other day, and thinks it says Taylor is calling for tight money. I just re-read Taylor's piece, and I don't think he's arguing for a cut in inflation targeting or tight money.

Why has the Fed gone cuckoo over interest rates? I mean, they’re doing crazy stuff to further lower them!

It's because they are focused on employment! To the detriment of hitting their price stability target. Because they’re totally locked in on the wrong concept to the exclusion of all else. Why? because our basic economic theory, the sort we teach and learn in econ 101, and that even most non-economists intuitively understand, is that low interest rates lead to more borrowing which leads to more employment.

Taylor is saying this pursuit of the the unemployment mandate, to the exclusion of everything else, is counterproductive to reducing unemployment.

Why Bernanke and co don’t understand low rates aren’t the solution to this kind of problem, I don’t understand, but I do understand the situation when I view it from that perspective.

Not will low rates not work in this situation, they focus and background conditions cause the Fed to ignore price stability and allow deflation. Which, of course, kills employment.

By abandoning the employment goal, the Fed gets to stop caring about interest rates and focus on the price level. Which will help the now unstated employment goal.

It's elegant, ingenious, and it might actually be right.

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