Is it time for the Federal Reserve to pursue a single mandate?

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12 USC 221 of the Federal Reserve Act provides four main purposes for the Act:

  • To establish Federal reserve banks;
  • To furnish an elastic currency;
  • To afford the means for rediscounting commercial paper; and
  • To establish a more effective supervision of banking in the United States.

The legislation provides statutory support for the Federal Reserve System’s objective of regulating the United States’ money supply.  Specifically, under 12 USC 225a, the Federal Reserve System’s monetary policy objective is to:

“[M]aintain long run growth of monetary and credit aggregates, commensurate with the economy’s long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.”

Among the tools the Federal Reserve System uses to achieve its monetary policy goals are the usual suspects: open market operations; the discount window and discount rate; reserve requirements; and interest on reserve balances.

Over the next several days I will be addressing the monetary policy and legal questions, “What factors does maximum employment address?” and “What factors do stable prices address?”

The media when reporting on maximum employment often references the unemployment rate for labor, while referencing the consumer price index when addressing the achievement of stable prices.  My issue is, why is labor the be all and end all of the full employment issue?

If the Federal Reserve’s goal is to maintain long run growth of money and credit that is commensurate with the economy’s long run potential to increase production, shouldn’t the Federal Reserve System consider or assess the full employment of America’s productive capacity beyond labor? 

The media gives productive capacity a secondary thought and its lack of emphasis on productive capacity does not, in my opinion, keep the trading and merchant community fully informed on how well the economy is actually doing.

I would make the same argument for prices as well.  The Federal Reserve System’s narrative is that too much inflation is bad and it has to be contained.  But is that narrative truly in line with the expectations behind wealth accumulation?  Is it line with creating in consumers a necessary illusion of wealth that results from inflated home prices? 

Growth in asset values gives the average American the impression that her wealth is increasing.  She wants to use her house as an automatic teller machine but can’t do that if rising interest rates slow down demand for her house resulting in a decrease in her value.  Is monetary policy helping her achieve that balance?

It is clearer at this point to see a more direct connection between the Federal Reserve System’s influence on the interbank market for excess reserves and interest rates versus pursuing a four percent unemployment rate (historical full labor employment) via its monetary tools.  For that reason, should not the Federal Reserve focus solely on interest rates?

Could a single mandate may be better for traders who need as clear an assessment of the markets as possible?  Maybe. Maybe not. Let’s explore.

Alton Drew

18 May 2022

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