Michael Evans
2/15/2006, 09:58 PM
The market strained, stretched, and sweated to do something -- anything -- on each and every utterance of Ben Bernanke, but in the end there was nothing to react to. The slight increase on the day reflected lower oil prices, not any change in Fed policy.
Fed policy these days is really quite simple. In equilibrium, the Fed funds rate equals the growth rate of nominal GDP. Since that is about 5% these days, the Fed funds rate will soon be moving up to 5%.
When the economy is not in equilbrium, the Fed pushes the funds rate higher if inflation appears to be accelerating -- even if it has not yet done so -- and pushes the funds rate lower if the economy slows down. In both cases it is generally expected to overshoot equilibrium for a while in order that the economy may regain its balance. Thus if real growth were to slow down to 2% later this year, the equilibrium funds rate would drop to 4% but the actual decline might be greater because of a desire to boost economic activity.
Anyway, that's what Bernanke is going to do this year.
In his testimony, he said he thought real GDP would rise 3 1/2% this year, which is close to the consensus but a good deal higher than our estimate. If he turns out to be right, the funds rate will eventually rise to 5 1/2%. But I don't think that level will be reached this year, because slowdown is already in the cards -- even though January retail sales zoomed 2.3%.
It's probably a good thing when monetary policy announcements are greeted with extended yawns. Of course that makes for a less exciting daily commentary, but Ben made it pretty clear that at least for the next few months, there will be no deviation from the course the Greenspan charted.
Fed policy these days is really quite simple. In equilibrium, the Fed funds rate equals the growth rate of nominal GDP. Since that is about 5% these days, the Fed funds rate will soon be moving up to 5%.
When the economy is not in equilbrium, the Fed pushes the funds rate higher if inflation appears to be accelerating -- even if it has not yet done so -- and pushes the funds rate lower if the economy slows down. In both cases it is generally expected to overshoot equilibrium for a while in order that the economy may regain its balance. Thus if real growth were to slow down to 2% later this year, the equilibrium funds rate would drop to 4% but the actual decline might be greater because of a desire to boost economic activity.
Anyway, that's what Bernanke is going to do this year.
In his testimony, he said he thought real GDP would rise 3 1/2% this year, which is close to the consensus but a good deal higher than our estimate. If he turns out to be right, the funds rate will eventually rise to 5 1/2%. But I don't think that level will be reached this year, because slowdown is already in the cards -- even though January retail sales zoomed 2.3%.
It's probably a good thing when monetary policy announcements are greeted with extended yawns. Of course that makes for a less exciting daily commentary, but Ben made it pretty clear that at least for the next few months, there will be no deviation from the course the Greenspan charted.