More Inflation Is the Cure for the Fed’s Impotence

Feb. 22 (Bloomberg) -- The U.S. Federal Reserve has all butexhausted its most powerful weapon: the ability to lower short-term interest rates. If it wants ammo to fight the next economicslump, it will have to give up its obsession with ultralowinflation.

Once, not so long ago, Americans thought their central banknear omnipotent. As economist Paul Krugman put it in 1997, theU.S. unemployment rate would be what then Fed Chairman AlanGreenspan wanted it to be, “plus or minus a random errorreflecting that he is not quite God.” With the Fed’s short-terminterest-rate target at 5.5 percent, the central bank had plentyof room to cut rates if it wanted to boost markets and stimulatethe economy. It did just that when financial troubles struck in1998, keeping the boom roaring for two more years.