During the 2010s, I was frequently annoyed by claims that the Fed was “artificially” holding interest rates below their equilibrium level. If interest rates actually were being held below equilibrium for over a decade, then inflation would have quickly risen to a very high level.

In response, some people claimed that through some sort of inexplicable process the inflation that would normally result from easy money was showing up in asset price inflation. And yet I know of no mechanism by which easy money could inflate asset prices without inflating the prices of goods and services. This was a classic example of ad hoc theorizing—a conclusion in search of a model.

Given enough time, however, almost any macroeconomic claim will come true.  Today, Fed policy is indeed holding interest rates below equilibrium.  I don’t base that claim on the current high rate of inflation (which in principle might be due to supply shocks), rather the evidence for excessively expansionary monetary policy comes from the recent surge in nominal GDP, which most certainly is not caused by supply shocks.

Nominal GDP growth is already well above the pre-Covid trend line, and the consensus forecast of economists is that NGDP will continue growing at over 6% over the next 12 months.  That sort of growth in nominal spending is not even close to being consistent with the Fed’s goal of 2% inflation.  In that sort of macroeconomic environment, it is difficult to understand how the Fed can justify its zero interest rate policy. 

Just as in late 2008, I’m at a loss to understand what the Fed is doing.

BTW, David Beckworth directed me to this tweet:

I find it dispiriting that after everything we’ve experienced since 2008, the Fed still doesn’t understand that they need to focus on NGDP.  Of course there’s “one damn thing after another”, just as there was one damn thing after another in the 1970s, when NGDP was growing at 11%/year.  With spending growth that rapid, excessive inflation is inevitable.  If it’s not oil and cars, it will be rent and restaurant meals, or health care and food.  Inflation will always show up when NGDP growth is excessive, it’s just a question of where.  Why doesn’t the Fed see that?  Are they not paying attention to NGDP?