Soul-searching at Fed is beginning

The soul-searching at the Fed is beginning.

I have written many times for over a year that the Fed will have a period when they start soul-searching. They will realize that the business cycle got away from them and they will not be able to normalize rates. They just got too far behind the curve.

Danielle DiMartino on Boom/Bust said, “I think it was probably one of the most interesting FOMC meetings… I think the fact that Esther George did not descent is telling you that there is an acknowledgement among members of the committee that the United States is probably headed toward a recession.”

DiMartino goes on to say that the Fed should never go to zero bound again and maintain a 2% floor for example, so that the banking system can function in a natural way. 0% does not allow the market to discover prices efficiently.

I do not agree with her on that by the way. The Fed rate should be able to go to 0% but then lift off according to the biz cycle of effective demand. In my view, the Fed should have started lifting rates at some point in 2012. There was still some spare capacity available for the economy to adjust to the disciplining of productivity by raising rates.

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Update: A similar view is presented by Signe Krogstrup. (link)

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There is hardly any spare capacity left. Profit rates and top line revenue peaked at the end of 2014. The Fed rate is too far behind the curve. The Fed will not be able to raise rates going forward without triggering a contraction.

The Fed is frustrated. They want to normalize rates, but won’t be able to.

The soul-searching has begun.