Over the last few weeks monetary officials have sounded increasingly worried about rising prices. On Wednesday, Richard Fisher, the president of the Federal Reserve Bank of Dallas, declared that inflation ''is running at a rate that is just too corrosive to be accepted by a virtuous central banker.'' I'm worried too -- but not about recent price increases. What worries me, instead, is the Fed's overreaction to those increases....
Much of the recent rise in core inflation probably represents the delayed effect of the big run-up in fuel prices a few months ago. And unless something else happens to drive up oil prices -- like, to give a wild example, a military strike on Iran -- inflation will probably subside in the months ahead.
I think that the Fed, in general, under-estimates the time it takes for monetary policy to effect the economy. I think that if it continues on its current path by raising rates nearly every month it will push us in a recession.
I think recent history supports my opinion. The Fed lowered rates too much in response to the recession which caused a huge reaction in the housing market (creating the so-called housing bubble). But that was a reaction to the previous recession which was caused by increasing rates too fast during the dot com boom which led to a hard fall. Prior to that rates were too low which caused lots of speculative investments.
In essence, if the Fed allowed more time in between rate changes they probably wouldn’t raise them so high or lower them so low making the highs and lows for less dramatic.
HatTip: Greg Mankiw