Some Ways to Put More Oomph in the Fed's Punch

When it comes to monetary policy, there will always be disagreement. Interest rates are a sensitive topic, since they affect everything from bond returns to the price of a mortgage. And monetary policy is confusing, since despite decades of hard work, no one really has a reliable general model of how policy affects the macroeconomy. Add politics to confusion, and the result is a roiling debate that never ends.

To help cut through this chaos, many economists have sought a rule to guide the Federal Reserve in its policy decisions. Rules provide an easy, automatic map from economic observations to policy variables like interest rates. More flexible than a rule is a monetary policy target. A target doesn’t tell the Fed exactly what to do, but it gives it a goal. For example, many central banks now use an inflation target -- for the Fed, the official target is 2 percent inflation. The Fed is free to do whatever it thinks it needs to do to hit that target.