The uneasy peace between doves and hawks has broken down. While some economists warn that interest rates have now risen by more than is necessary to contain price growth, others say that monetary policy has not really tightened at all.
Every economist knows the maxim, dubbed the “Taylor principle” which tells central bankers to raise interest rates by more than inflation has gone up.
Yet today no major central bank is following the principle.
The trouble is that although the Taylor principle makes sense in theory, there is disagreement about how to apply it in practice. A true measure of real interest rates is forward-looking. New borrowers and lenders need to know what inflation will be in the future, not what it was in the past.
Greg Mankiw of Harvard University worries that the Fed may be overdoing things
The argument relies on what economists call “rational expectations”.
Perhaps the best argument for more rate rises, though, is the poor record of both economic models and financial markets at predicting inflation. Over the past year both have persistently underestimated its rise.
The Economist 10 November 2022
- There is no such thing as rational expectations. There is wishful thinking, or panic. Now in a chart.
Englund blogg 7 September 2015