Thursday, 13 March 2014

The market does not expect overshooting

I just want to quickly respond to Evan Soltas (and Tyler Cowen) who argue that the Fed is already giving doves what they want. Mr Soltas writes:

There’s no doubt that the costs and benefits of an “overshoot” of full employment are asymmetric. Stay too loose for too long, and you get a temporary bit of inflation. Exit too early, and you leave the work of fixing the recession unfinished forever. Who wouldn’t take the first one?

The problem with this cost-benefit logic is that the consensus policy track already agrees with it, as do I, to the extent to which the logic works. Futures markets anticipate the first rate hike in the fall of 2015. Rate are then set to rise about one percentage point per year. This locks in a solid amount of “overshoot” already.

How do I figure that? The unemployment rate is 6.7 percent. It has fallen roughly 0.8 percentage points per year. Extrapolate forward to the fall of 2015, and you get that the first rate hike will happen with an unemployment rate of about 5.5 percent. The Fed’s estimate of the natural rate of unemployment is 5.2 percent to 5.8 percent, and the middle of that range is 5.5...

No comments:

Post a Comment