Monday, March 26, 2007

Asset prices and the Fed

The conundrum the Fed faces with financial and real asset prices continues.  In order to effectuate the "goldilocks" economy, the Fed must manage inflation expectations whilst turning another eye to asset prices.  This behavior has some interesting side effects, the most prominent of which is what the REcapitualtor believes is an unhealthy regard for defacto central planning.

From Mishkin's latest speech, in which he all but states the management of the "correct" inflation expectations is the aim of the Fed:

"Although solidly anchored inflation expectations are indeed highly
desirable, they could pose a bit of a problem for monetary policy if
they were at a level somewhat above or below the rate preferred by
policymakers. Under such circumstances, the central bank would likely be
interested in shifting the public’s expectations in a more favorable
direction. Whether such adjustment would be easy or difficult is,
unfortunately, quite uncertain because we do not understand the
expectations-formation process very well"

Expectations are a "problem" if they are above or below the rate "preferred" by the Fed.

Mechanical inflation targeting (something that I abhor) is looking better all the time...

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