Challenged, the Fed faces a decision on rates

Conservative activists who want the Federal Reserve to raise interest rates distributed chocolate coins in golden wrappers at the local airport last week as Fed officials arrived for their annual policy retreat.

Liberal activists in green "Whose Recovery?" T-shirts formed a receiving line at the resort hotel in the heart of Grand Teton National Park where the meeting was held, to personalise their argument that the Fed should wait. Sometime soon - as early as mid-September and probably no later than the end of the year - the Fed plans to raise its benchmark interest rate one-quarter of one percentage point, a mathematically minor move that has become a big deal.

Investors, who always pay attention to the Fed, are paying particular attention now. The central bank has held short-term rates near zero since December 2008; the impending end of that era is one cause of recent financial market turmoil.

But the Fed's plans have also become the latest point of contention in a broader debate about the government's management of the American economy, pitting liberals who see a need for more aggressive measures to bolster growth against conservatives concerned that Washington and the Fed are already doing much too much.

"There shouldn't be this intense interest in a quarter-point increase, and there shouldn't be this intense interest in whether it comes in September or December," said Alan S Blinder, a Princeton economist and the Fed's vice chairman in the mid-1990s. "But the Fed remains the centre of the financial universe. People stare at it like they stare at the North Star." And so, as Fed officials conferred with other central bankers and academics, the liberal activists held two days of "Fed Up" teach-ins in a room directly below the main conference, while the conservatives convened a "Jackson Hole Summit" at a nearby dude ranch.

In the decades before the financial crisis, policy makers generally agreed that central banks should focus on moderating inflation. Now, both that goal and the best way to achieve it are subjects of debate. Liberals argue that the Fed should aim more broadly to lower unemployment and encourage rising living standards. Conservatives want to strengthen the focus on inflation by requiring officials to follow rules in making policy. With the critics lining up outside, central bankers found no escape inside the main conference, where a series of academics warned policy makers that their view of inflation was oversimplified, and that their policies were less effective as a consequence.

"The conference was more about what we don't know, about a candid willingness to analyse what we don't know," said Lucrezia Reichlin, a professor at London Business School and former director general of research at the European Central Bank. "It did not really inspire confidence" in monetary policy.

The formal program, on "Inflation Dynamics and Monetary Policy," was devoted to the vexing reality that inflation in recent years has not behaved as economists predicted. The basic paradigm, the Phillips Curve, is that inflation falls as unemployment rises, and rises as unemployment falls. But inflation did not fall as much as expected during the Great Recession, and has remained surprisingly weak during the recovery.

© 2015 The New York Times News Service