The President Of The Minneapolis Fed Believes It is Time To Tighten Fed Policy

This is the first of three posts by regional Federal Reserve members of the FOMC which makes decisions on Fed policy. This speech, by the President of Minneapolis Fed, explains his rationale for making Fed policy less accommodative. He would like the Fed to raise short term interest prior to 2014, and he would oppose a new round of quantitative easing, which is the Fed purchase of longer term treasuries to keep longer term interest rates low.

Economies are always in a state of flux. Some industries decline and others arise to take their place. He believes there have been structural changes in the economy which make it harder to replace lost jobs with new jobs. Households have lost trillions of dollars in housing wealth. This has limited the ability to start up new businesses with their own capital. That would explain why new business formation has been lower than normal. New business start ups are major source of new jobs.

Existing businesses are also reluctant to hire because they do not like to hire new workers and be faced with firing them if the economy should have another shock. He believes that businesses were shaken by the financial crisis and they are still worried about a potential relapse.

He believes that demand is not below the current productive capacity of the economy because the inflation rate has been stable at close to the target rate of 2%. We should have price deflation if our productive capacity was above aggregate demand. Of course, Fed policy has been successfully directed against price deflation but there are signs that it is time to turn away from further accommodation. He expects unemployment to fall to 7% by the end of 2013 and that is closer to the new "natural rate of unemployment" in an economy undergoing structural changes.