Why is everything so expensive? And what exactly is going on in the labor market? We are all asking these questions and the U.S. central bank, the Federal Reserve, is working on
it. After all, that's its job. To stabilize prices and maximize employment. These two key responsibilities are known as the
dual mandate, but deflating prices while increasing job
opportunities. Turns out, it's tricky. There is a trade off between, in the long term,
between low inflation and unemployment. The Fed controls price stability with interest
rates. High inflation? Raise rates to decrease borrowing. But, the job market often thrives when interest
rates are low because companies can borrow cheap money and create more jobs. Some economists think this trade off is
unreasonable. It's impossible to maximize employment and not
ignite price pressures. While others believe it's key to keeping the US
economy safe and stable. It strengthens the hand of those people at the Fed
who are at least as worried about employment as inflation. Either way, the American people are caught in the
middle. I think it's hard to sell to the public that what
you're trying to do is make more people unemployed, right? No one wants to hear that. What's the right amount of torture we should do of
innocent people? You know, it's not just a little bit or, you
know, it's zero. It's torture is bad. Here's what happens when the goals of the dual
mandate start to clash and how the Fed tries to strike this near-impossible
balance. The dual mandate is made up of two goals: maximum
employment and stable prices. But the Federal Reserve didn't always
have a dual mandate. The late 1970s. The federal government could not come up with any
plans to help allay this acute level of joblessness. They added that second mandate. Since the Federal Reserve Act of 1977 was passed
by Congress, the US Central Bank pursued this dual mandate with
its powerful, precise tools like adjusting interest rates. The Fed had developed a pretty effective way of
dealing with recessions whenever they occurred. The Fed would start cutting interest
rates, and that would stimulate consumption and investment and spending. Or the Fed raises interest rates. When the Fed makes borrowing more expensive. People borrow less and spend less by raising
interest rates. Presumably, at some point, employers will hire
fewer workers. And if employers hire fewer workers, then
there'll be more people who are unemployed. Unlike the US dual mandate, some other central
banks have a narrower focus: to target inflation. In some other countries, which do not have a dual
mandate, the central bank sometimes is tempted to lean too much on the
inflation mandate so that it will accept any level of unemployment
in order to get to their 2% inflation goal. And we don't want that. We want the balance. For example, the European Central Bank targets a
2% inflation rate, just like the US. But, the ECB doesn't address
employment. The European Central Bank, which has a single
mandate, ran tougher monetary policy, higher interest rates than I
suspect the Fed would have run. Theory suggests that monetary policy has a long
term effect only on prices. It doesn't have a long term effect on activity or
employment, you know, unemployment, etcetera. The problem is if people expect a central bank to
start targeting unemployment, then they build in an easier monetary policy. Price stability are very directly correlated with
the Fed's monetary policy, so they can push interest rates up or down, and
they're going to have a pretty good idea of what's going to happen. And the unemployment market just
doesn't work like that, right? Because the employment market is really affected
by so many other factors outside of the Fed's control. The Federal Reserve's Open Market Committee, also
known as the FOMC, is made up of a mixture of 12 members from the Fed's Board of
Governors and Regional Reserve Bank presidents. They meet up to pore over financial
and economic data before casting a vote on whether or not to raise interest rates. Using the dual mandate as a guide to weigh
objectives. These are matters of judgment. It's when you get to those moments where there
are close calls. It's important that the Fed has a clear mandate
from the Congress. Those 12 voting members face this difficult
decision. Prioritize reducing inflation or maintaining low
unemployment ? When you're trying to keep prices down, you're
trying to keep supply and demand in balance. But when you're trying to maximize
employment, that means that you're trying to push demand beyond supply. The danger of pushing too hard for for a low
inflation target could easily cause a recession. And a lot of households would have people who
lose their jobs. The Fed now it's saying we're going to get
inflation down because if we do so, then it will be a better economy overall, which will create
more jobs in the end. But first, we have to make the unemployment rate
rise, which is it's exactly counter to that second mandate. Some economists point to the fact that the US has
experienced relatively stable inflation and low employment in recent decades as
evidence of how this mandate can be effective. For example, the Fed targets a 2% inflation rate
and that has stabilized what people and businesses expect in
the economy year after year. You know, to give credit to orthodox monetary
policy, you know, the fact that people have in mind the Fed has an inflation target. Expectations have not gone up very much. And again, that's helped to mute the increase in
inflation. The nightmare 1970s spirals and inflation goes
up. And so people expect even more inflation and that
causes even more inflation. Ultimately, the effectiveness of the dual mandate
depends on a variety of factors like the state of the economy, not to mention broader
economic and political trends. The problem is it feels as if the Fed can only
fight a war on one front because there's an inherent conflict in trying to
keep prices down. When you're trying to keep prices down,
you're trying to keep supply and demand in balance. Some economists believe the Fed should go back to
a single mandate. We are clearly at a crossroads for monetary policy
in general, for Fed policy. I think that they may take this opportunity to
reverse what happened in the late 1970s and return the Fed to being a single
mandate institution because that is actually going to
promote more economic stability going forward over the long run. It would be better if they were to, in my opinion,
only focus really on price stability and therefore give
people confidence that their purchasing power would remain intact,
their store of value would remain, which is one of the purposes of money. And I think the world would be more comfortable
with it. But I don't see that happening either. One reason some experts would rather the Fed focus
on prices is due to the difficulty of measuring and defining
maximum sustainable employment in the first place. It's very different from the inflation target,
where if you ask what the inflation target is, everyone says 2%, everyone knows 2%. That's the number. And because it's this more
sort of amorphous thing, there isn't a number and there isn't one particular measure
either. And then if the Fed is too focused on job growth,
it may be tempted to keep interest rates too low for too long, which can lead to
inflationary pressures in the long term. There still is a tendency, I think, of central
banks to be just slightly too inflationary. Why do we want to keep pushing up the cost of
living for ordinary people? And that's what a 2% target is doing. It's saying we're targeting an increase in the
cost of living for ordinary people. Why would we do that? It doesn't make sense. Another criticism is how the Fed's focus on price
stability may not consider how rising costs can affect lower income
households. How can a guy ever save any money? A lot of us workers were not getting paid what
they deserved. Companies need to be a little bit more focused on
on income, on compensation going forward. If that is the case, then I think you will
naturally have a lower unemployment rate which would benefit the
Fed and this dual mandate. Some economists think the mandate should expand to
include financial stability, reducing income inequality or even addressing
climate change. I'll now actually change my research focus away
from macroeconomic policy, back to policies that make people's lives better. Legislative action by Congress would be the only
way to change the mandate. And no matter what, the central bank does have
some discretion in its interpretation of the law and how to implement policy. Maybe it's time to go back to that single mandate. Fed policy swings the economy too far in one
direction, and then it swings the economy back because it's constantly reactive as opposed to
being proactive in making policy. And finally, remember, one very important thing. The only way to raise the real wealth of an
economy is through innovation, increases in productivity, new
inventions, the things that really raise the efficiency of
the economy and allows you to produce more goods with the same amount of input. And that's the only way to raise wealth.
