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Narayana Kocherlakota

The Fed Needs to Focus on Employment

Forward guidance will work best if it targets a 4% jobless rate.

What people need to expect.

What people need to expect.

Photographer: Joe Raedle/Getty Images

When the U.S. Federal Reserve holds its next big policy-making meeting, officials will discuss forward guidance — that is, how to communicate the central bank’s future plans in a way that will boost the economy today. If they want to have maximum impact, they should focus the guidance on progress in getting people back to work.

In the simplest form of forward guidance, the central bank promises not to remove stimulus — for example, by raising interest rates - before a certain date, in the hopes that the guarantee of easy money will encourage people to spend and invest. This, for example, is what the Fed did under Chairman Ben Bernanke in the first few years after the 2008 financial crisis, with some success. But there’s a problem: the central bank needs to adjust the target date whenever the economic forecast changes significantly. Given how uncertain the outlook is right now, I doubt the Fed will opt for such calendar-based guidance. The potential for sharp and frequent adjustments is just too great.