Time to start saving again?

As all Economics 411 students should know by now, quantitative easing – or balance sheet monetary policy – won’t come back to haunt us in any scenario until the economy starts to heat back up. In that case, only by the Fed missing the signs of an economic rebound and failing to act would the U.S. economy be at risk of overheating. Professor Kimball defends this aspect of QE in many of his posts, but here is one that describes this scenario in more detail than I will go into on this post. In today’s Fed policy meeting, it became clear that some officials are already talking of dumping off assets accumulated through QE in the near future. Selling off these assets would mark an attempt to start bringing up the Federal Funds Rate and other short-term interest rates. Fed “Hawks” brought up the dangers of inflation as the tapering continues and is expected to end in Q4 of 2014.

Is it too early to talk about a boon, and of increasing rates that for years have been stuck near the zero lower bound? I don’t think so. With a strategy as new as QE, it seems that caution is much better than the alternative. And really, how far is the U.S. economy from finally ending talk of recession? As Fed chairwoman Janet Yellen has said, the jobless rate target will remain at 6.5% for the foreseeable future. But how far off is that? Recent news confirms that a strong recent push has brought America down to just a 6.6% unemployment rate. That’s exactly why planning ahead – even to something so foreign to us as inflation has been for the last few years – is imperative for the Fed, and now.

“‘We are a lot closer to a normal economy than we’ve been in a long time,’ James Bullard, president of the Federal Reserve Bank of St. Louis, said Wednesday in an interview. He sees the jobless rate hitting 6% by the end of the year, which he said could put pressure on officials to start considering rate increases.” -WSJ

While Mr. Bullard’s forecast of 6% seems to be an answer to our economic prayers, there is still a collective worry about the effects that dropping out altogether from the labor force have had. Some believe that while 6.5% sounds great, it is a long shot from the actual state of the U.S. economy at this point. And it’s only fair to assume we have a way to go, especially before the general population is convinced that the recession has passed. Most estimates have interest rates rising by late 2015 at the earliest, as inflation stands well below anything worrisome. It seems like a problem the U.S. economy won’t need to face for a while, but the inflation “Hawks” are starting to circle at the Fed.

4 thoughts on “Time to start saving again?

  1. xcharles

    Very interesting topic. It seems unusual that the Fed would bring up rates so soon during a to spend, even as the general public is not totally convinced that we’re out of the recession. However, the point you made about unemployment wraps the argument together more tightly. With unemployment going down, it makes sense to pursue unconventional monetary policy cautiously.

  2. alexfigu@umich.edu'alexfigu

    At this point I would say that the effects of baby boomers dropping out of the market should signal to people that maybe the 6.5% unemployment target isn’t the best number to look at. I would agree with the interest rate hike at end of 2015

  3. Chris Chegash

    Do you mean saving as a individual, or saving as a nation? From a personal standpoint, it seems wise to save money if you are able to. The little money you spending won’t affect the economy as a whole very much, but you will have money in the bank. However, when everyone starts to do this, then the economy stalls out a bit.

    This is an interesting game theoretic outcome somewhat like the prisoners dilemma.

  4. viczhou

    I think the Fed should take much more factors than the pure unemployment rate into consideration when executing decisions on further QE tapering and interest rate hikes, given that there has been a significant decline in workforce participation. Also, the economic updates of emerging markets matters to the US because of international trade and capital flow, which would affect financial stability in the US and beyond.

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