The current conventional wisdom is that the Federal Reserve should lower interest rates when the economy needs to be stimulated, and it should raise interest rates when the economy/inflation needs to be slowed down. As of right now we have 8% inflation, so the Federal Reserve is rightfully raising interest rates in a quest to cool demand and bring inflation down.
But how did we get here, to 8% inflation? We have had substantial supply chain issues, and we have increased our monetary base by 40%. What has been fascinating to see is that unemployment has actually gone down to historically low levels. Americans haven’t found it this easy to get a job in my lifetime. The economy is in overdrive and raising interest rates are about the only thing slowing it down.
I believe that through this pandemic, we’ve experienced something powerful. Stimulating the economy by giving out checks to the poorest members of society works. Our economy is stimulated.
Moving forward, I think a better central bank policy would be to a.) raise interest rates when inflation gets above the target rate and b.) have Congress send out targeted and temporary checks when inflation falls too low. I believe with such a policy we could keep interest rates at a healthier level for the economy as a whole. There is no reason for interest rates to ever go below 3%. Interest rates above 3% place an evolutionary force our companies for the better. A 3% interest rate also produces real yield that stabilizes income for retirees. A 3% interest rate should limit the size of bubbles. It’s harder to have a speculative bubble when the people are given meaningful yield for holding US dollars.
So the next time the economy needs a shot in the arm, we shouldn’t just lower the interest rate to zero to help keep the old, dying companies of America from going out of business. We should send out targeted checks to our citizens that are destined to spend them. Let the companies that are providing the most value to Americans get greater revenue, greater profit margins. Let those companies start fighting for workers and drive wages up. Just a few years ago, the world was trying to accomplish just that, and negative interest rates didn’t do it, but mailing out checks during COVID did. I hope we learned that lesson.