FOMC Adopts Game-Changing Conditional Inflation Targeting Rule

WASHINGTON, DC - NOVEMBER 27: Federal Reserve Board Chairman Ben Bernanke waits to pose with student competitors for group photos during the National College Fed Challenge Finals at the Federal Reserve November 27, 2012 in Washington, DC.

Photo by Alex Wong/Getty Images

This is huge. With today’s policy announcement, the Federal Reserve’s Open Market Committee has stopped screwing around and started doing real expectations-based monetary easing.

The new policy is a version of the plan from Charles Evans that I wrote about in March. They’ve said that interest rates will remain low until unemployment falls below 6.5 percent or the inflation rate exceeds 2.5 percent. That is a softer and weaker form of monetary easing than Evans originally proposed, but apparently a meager inflation target is the price you have to pay politically to get this done. As I explained yesterday, this kind of strategy should be partially successful in getting corporate cash off the sidelines in a way that “certainty” and “confidence” won’t. The higher inflation target makes cash-like safe liquid investments look slightly less reasonable than they did yesterday, while the faster real growth implied by the unemployment target makes real investments in increased capacity look better.

If I had my druthers, I’d have taken a more aggressive action involving a permanent increase in the inflation target back up to a Reagan/Volcker era 4 percent, but this is good stuff. As I wrote a month ago, we’re getting a new FOMC present for Christmas.