The Latest Monetary Policy Decision: Does the Fed Know What It’s Doing?

By SBE Council at 20 September, 2023, 7:01 pm

by Raymond J. Keating – 

The Federal Reserve decided to leave the federal funds rate unchanged at 5.25 to 5.5 percent. Given the misguided focus of the Fed on trying to fight inflation by undermining the economy, things, quite frankly, could have been worse.

Reading the FOMC’s full statement, however, leaves this economist feeling that the Fed isn’t really quite sure what’s going on with the economy, nor the full ramifications of their policy decisions.

For example, it is noted in the statement: “Recent indicators suggest that economic activity has been expanding at a solid pace.” That’s good.

However, it also is pointed out: “Tighter credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation. The extent of these effects remains uncertain.”

Well, okay.

And then there’s this: “The Committee will continue to assess additional information and its implications for monetary policy. In determining the extent of additional policy firming that may be appropriate to return inflation to 2 percent over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”

That’s about as clear as mud.

The one clearly welcome point in the statement was the focus on reining in the actual money supply (the Fed has direct control over the monetary base, i.e., currency plus bank reserves): “[T]he Committee will continue reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities…”

At the same time, however, that effort that started in early 2022 has recently, over the past five months, stalled. (See the following chart.)

Source: Federal Reserve Bank of St. Louis, FRED

After all, the Fed’s fantastically loose monetary policies that started in 2008 provided the foundation for our recent bout with serious inflation. Manipulating interest rates isn’t going to deal with inflation – recent declines in inflation have been overwhelmingly about the private sector freeing up supply chain issues – but reining in the actual money supply will work against inflation and reduce uncertainty for entrepreneurs, small businesses, investors and consumers.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council. His latest books on the economy are The Weekly Economist: 52 Quick Reads to Help You Think Like an Economist and The Weekly Economist II: 52 More Quick Reads to Help You Think Like an Economist.