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No-one ever seems to notice the disclaimers, so I'll just use the first comment to repeat that this post was written by Simon van Norden.

Or the European mess.

I couldn't agree more. What inflation there is in the U.S. economy is driven by rising commodity prices which, in turn, are driven by demand in emerging countries. We desperately need some fiscal stimulus here, but politically, all signs point the other way. All the same mindless balance-the-budget opinions that ruled in the 1930's and prolonged the depression for 10 years are back in the driver's seat and I don't see an end to that. This is looking like a long, long, slump.

What is the fiscal theory of monetary policy that implies that the fed should react to changes in government bond yields? I understand this measure being part of the equation as a measure of expected inflation, but that is only in equilibrium, no? With the wild swings in global markets I think it's difficult to make these inferences in the short run. Another question: did markets react as they did to the news because the interest rate was inappropriate, or was their reaction independent of the interest rate? If the latter perhaps markets have priced things correctly given the lack of political will to fix the fiscal and regulatory problems in the US.
Here is a recent take on how things are unfolding:
I think it's too soon to say whether Kocherlakota got it right or not. I guess we'll have to wait to see how much unemployment drops in the coming months? Let's hope we get less bad news as the Fed continues to run out of slack to accommodate our worries.

Ross Hickey: The "textbook" treatment of financial markets argues that they reach equilibrium in minutes; that would imply that the bond prices I mentioned above fully incorporate all the news from these FOMC decisions (plus everything else that happened in the meantime.)

I mention bond yields only to indicate that (a) financial markets seemed to think that there was important information in the debt-ceiling decision, and (b) that they do not seem concerned about US inflation risks.

I think you're also missing the point. The question is not whether Kocherlakota got it right. The question is how seriously to take his dissent. Right?

I likely missed the point, because we appear to be on different pages. Interesting post! Thanks.

Price inflation targeting (and I believe NGDP targeting will end up the same way) both suffer from the same problem. They ignore medium of exchange, specifically too much currency denominated debt.

I am no expert on this. Can someone please explain why there wouldn't be some benefit in a looser monetary policy in terms of this large debt. For instance, in the past, nations (including the US) have used inflation and loose monetary policy to help pay down their debt. The inflation hawks seem only interested in one parameter. Not only are there inflation vs. unemployment issues, but there is also the consideration of the massive deficit. As well, loose monetary policy could weaken the dollar against competitors (not China if they keep their peg. This, theoretically, could lead to stronger exports, which could be extremely helpful in growing the economy.


I understand there will be those hurt by higher inflation. I.e. people on non-indexed fixed income, bond holders, etc. However, it is still possible that the two points I brought up (deficit reduction in real terms and exchange rate depreciation) could be beneficial on the whole. Worthy of at least being part of the calculation?

Kevin: I'd say you've got it about right.

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