The 2023 Economic Policy Symposium “Structural Shifts in the Global Economy,” was held in Jackson Hole Wyoming, from Aug 24-26. The focus was on the keynote address by the Fed Chairman, Jay Powell on the first full day of the conference, August 25. Chairman Powell remarked in his conclusion “As is often the case, we are navigating by the stars under cloudy skies.” This article focuses on one of the metrics commonly used in the setting monetary policy called r-star. Metric is a misnomer, since r-star is not directly observable in the market, so it’s not even historical. Reliance on the value of r-star results in wrong cues in setting interest rates. This is a double whammy, a virtual value that is made even more unreal due to unfurling events and thus changing circumstances.As long as economists rely on abstract variables, and outdated models the nation and the world economy is doomed to play eternal catch-up with reality. Some suggestions from various quarters to escape from this monetary policy doom-loop are also sketched out.
As summer stretched to fall and just before the oncoming winter, endless punditry staked out positions on either side of the monetary policy conundrum. Lately, end of the year optimism and greed have triumphed as inflation seems to have been vanquished. The economy is robust and, unemployment is low, although creeping up. The stock market is on a tear, pulling back in the last couple of days. In the new year, the specter of inflation is back. On the back of low unemployment rates and tension in the supply chain bottlenecks. Lately, Powell and Christopher Waller have remarked on the uncertainty surrounding inflation. Uncertainty due to the linkages to tight labor markets. The natural rate of unemployment, u-star, strikes again.
R-star is one of the star variables. R-star is the real interest rate consistent with output equaling potential and stable inflation. “Output equaling potential” implies an ideal state. Never seen.
The other star variables are U-star, and I-star. U-star is derived from the so-called natural rate of unemployment. Unemployment that cannot be combatted, the lower limit of the unemployment rate. I-star is the ideal rate of inflation, fixed in our mind as two percent from recent history. More importantly, two percent is also fixed in the minds of the Federal Reserve Governors and voting members. It has to be a reasonable number, below a value that does not cause grief to people when prices rise without increased income. These star variables are abstract and their values are uncertain. In the US, the Fed and notable economists and pundits rely on these variables for setting or talking about monetary policy. The imprecision and uncertainty of these numbers contribute to inefficiency, ineffectiveness, lag and wrong-headedness of monetary policy.
There are debates raging over whether the pandemic payments or the strangled output of the uber manufacturer, China played the most important role in the rise of global inflation. Even the most ardent of inflation hawks, who lay most of this on payments and the healthy labor markets, namely employment under the “natural” rate of unemployment do concede that 40-50% of the inflation was due to the zero covid policy in China followed by the Ukraine “special operation”. China’s glide into low growth and the selling of goods for low margins did push inflation down. The “war” in the middle east and its attendant fallouts on the Suez corridor plus the drought in Panama threaten to push it back up. Of course, the inflation hawks look at the healthy labor market here in the US and see a red flag.
What can a poor…
This article was originally published by a www.forbes.com . Read the Original article here. .