Having One Goal Fixed and One Undefined Is an Unworkable Dynamic
The Federal Reserve (FED) has a dual goal of low inflation while maintaining maximum employment. You’ve probably heard the 2% inflation target number before, but what about that other goal? What is their unemployment target rate? Can’t remember having seen it? You’re not alone. That’s because there is none.
“The maximum level of employment… is not directly measurable and changes over time.” That’s the Fed’s own statement in January of 2024. That could be a good thing in that the rate could get very low without the Fed feeling that the labor market is too tight, since they have no target that says, “too tight”. But they do have a number for inflation. When you have a fixed point for one goal, then the other goal is always going to have to adapt to the effort to get the fixed one back to its target.
Theoretically we could have tragically high unemployment but the Fed could decide that 3% inflation is still above their goal and they need to do something to get down to 2%, so if that takes dampening the economy till unemployment gets even worse, well that’s just what has to happen. I don’t actually think they’d get that far out of whack, after all they do want to avoid recession while they try to tame inflation, but you can see how the dynamic puts the bias toward one of the goals while sacrificing the other.
They may, with best intentions, think they are using a balanced approach, but living and operating from a high level position will make them susceptible to not fully understanding the view from the other side, from the bottom up, and then this dynamic of only one hard fixed goal would just compound that.
They might be right that unemployment is more context sensitive and harder to declare what makes for an ideal number. But then there are those who argue that inflation should be considered a more context sensitive goal too. If a period of 3% inflation is brought about mostly by problems with supply chains, say by shipping being hampered by hostile attacks, should that inflation rate trigger slamming the economy with high interest rates? But fighting inflation by dampening the economy when the type of inflation doesn’t respond to high interest rates, has negative consequences too. It causes the economy to cool which means fewer jobs which means employees, both old and new, have less leverage to get a good deal or good treatment.
The Fed in effect has said they can be flexible about inflation as recently as late 2020, that having higher inflation is okay for a while depending on circumstances. Their behavior recently, though, was of being fixated on 2%.
The Fed should just outright adopt flexible targets for both goals. Having one goal fixed and one undefined is an unworkable dynamic. Letting both goals be flexible, finding what current goals give the best results for the most people, and then communicating their discerned balance that they’re shooting for so markets know what’s going on, would keep markets and people informed, which is important, while allowing current targets to be adaptable to what is best for the most in current circumstances.
For anyone who’s ever been through a business 101 course, can you imagine setting up a department to have one fixed goal and one undefined and expect that won’t work to the detriment of the second goal? Come on. This is basic objectives management.
