Is Tim Duy seeing Fed rate behind curve?

I am gaining respect for Tim Duy. He is seeing something that I have been saying for some time. The Fed rate is behind the curve and will not be able to normalize.

Yes, Tim Duy makes great analyses of the economy to determine the future path of monetary policy, but he has always been in favor of keeping the Fed rate low. But now reality is nudging him. He is seeing the great possibility that the Fed rate will return back to the ZLB during the next recession. Tim Duy states…

“That said, I am also beginning to expect that a return to the zero bound is almost guaranteed. I fear the time has passed for the appropriate mix of fiscal and monetary policy that leaps the economy to a higher equilibrium.”

Yes, the time has passed. In my view, the Fed should have started raising the Fed rate very gradually about 2 years ago, on the order of 25 basis points every 4 to 6 months. This strategy would have given better economic balance increasing net social benefits for a healthier economy. The business cycle would have slowed down some allowing needed time for monetary policy to normalize. Two years ago, the markets had the momentum and sufficient available slack within effective demand to withstand the discipline.

The key factor that kept Tim Duy in favor of a low Fed rate was his view that there was great slack for labor and capital that would eventually be utilized. However, he did not realize that falling effective demand after the crisis meant that much of that past slack would not be utilized in this business cycle. In effect, this business cycle would be cut short with less time to normalize policy.

I emailed Tim Duy in April 2013 explaining this effect of the fall in effective demand to shift “the Fed funds rate into a permanent liquidity trap zone”. My emails did not seem to affect his views, but now economic conditions are revealing what I said. I tried to bet him an Oregon beer that the economy would follow the constraints of my equations. The bet was not taken, but it looks like I would be winning the bet, since recession concerns are now growing at the point where I placed the effective demand limit.

Still, this is a serious issue of the Fed rate falling behind the curve. The economy will under-perform for years to come.