When the Federal Reserve announced back in August that it expected to keep interest rates at very low levels until at least mid-2013, three top policymakers voted against the decision — and a number of non-voting officials grumbled as well. St. Louis Fed President James Bullard is one prominent critic of the policy, arguing in a speech last month it ties the central bank down unnecessarily and potentially threatens its credibility if conditions require a course correction:
It is time for the Committee to discard one-time policy changes with fixed end dates. The Committee in the past never contemplated announcing several hundred basis point moves to be completed at a date certain. Yet that is how the Committee behaves today. Research indicates quite clearly that optimal monetary policy should continuously respond to ever-changing economic conditions.
Not to worry, argue two young economists in a paper on VoxEU. Olivier Coibion at William and Mary and Yuriy Gorodnichenko of Berkeley say the move toward using specific time horizons for the purpose of policy guidance is a perfectly consistent next step in the Fed’s gradual push toward greater transparency. They conclude opponents of the policy are misinterpreting its intention:
Given current economic forecasts for 2012-2013, the Fed’s indication that policy rates are likely to remain around zero until at least mid-2013 appears consistent with the historical behaviour of the Federal Reserve. The announced path of policy rates is remarkably close to the projected path (subject to the zero constraint), where the projection is based on what the Fed did in the past, so little evidence exists that the new language should be interpreted as a direct change in policy (beyond possible movement toward increased transparency) or that the Fed has altered the relative weight assigned to inflation and output stabilisation in its objective function. Instead, our results suggest that, contrary to those who condemn the Federal Reserve for becoming increasingly “dovish”, the FOMC’s projected policy path is well aligned with its historical behaviour and current projections of future macroeconomic activity.