Sunday, November 1, 2009

What Should the Fed do 2

The third quarter GDP report is out, with a 3.5% growth rate for real GDP.

Of course, I was more interested in the level of total final sales of domestic product. At $14,448 billion, it has now increased for two consecutive quarters. After the slight increase of .62% for the 2nd quarter, there was a 3.4% increase in the third quarter.

However, the 5% trend growth path for total final sales for the third quarter quarter was $15,587 billion, leaving a 9% shortfall.

Even with a 3% noninflationary growth path (starting last year,) total final sales should have been $15,489 billion. So, it was about 7% below what I consider the appropriate target.

If the Fed targeted total final sales one year in the future, then the target for fourth quarter 2010 remains $16,081 billion. That would be a 11% increase from the third quarter level, and a 13% annual growth rate. (Once returned to that growth path, it would continue to increase at a 3% annual rate, consistent with close to zero inflation.)


  1. Although maintaining a constant rate of increase in nominal expediture is an ideal monetary policy rule, once the monetary authorities fail to hit that target and the rate of increase in the price level begins to fall, should monetary policy attempt to return to nominal expenditure to the pre-crisis trend or meet the change in the price level midway?

  2. Imagine that it is 50 years from onw. 40 years ago, the economy appears to have fully recovered (maybe more like 48 years ago.) Do we now move to the pre-crisis growth path? No.

    But I think nominal expenditure targeting is the proper approach. Trying to fine tune things, (meeting things in the middle) seems plausible, but what exactly is the middle?

  3. Bill, I agree with your comments. It is hard to say exactly what the Fed should do, until they spell out what NGDP (or inflation rate) they are shooting for. Until then we are flying blind. But I agree that it helps stabilize the economy if we commit to return to trend within a reasonable period.

    BTW, I did some checking, and I think it is now a lock that in 2009 NGDP will fall by the biggest amount since 1938. The previous biggest postwar drop was 0.7%, in 1949.

  4. I think any increase will be good news, but at the moment it’s not looking all that bright with hearing all the news. I do Forex trading, but I mainly focus on simple way of working, I don’t enjoy news trading at all and with OctaFX broker, I am getting helped massively given their lovely economic calendar, it is according to my time zone while there is also daily news and analysis provide by highly qualified team of experts that too free.