Desperately Seeking Neutral

Wall Street (i.e., bankers, money managers, large investors, etc.) makes its preferences known mainly through market price action. This group almost always wants lower interest rates and more liquidity. 

Something called the “neutral” or “natural” rate of interest is a theoretical concept, meaning the interest rate at which an economy is at maximum output with stable inflation. Economists call it “r*” or r-star. 

No one knows what this rate really is. 

Monetary policy thus boils down to how far the policymakers think they must deviate from r-star in order to restore their beloved equilibrium without causing even more mayhem.

Restrictive policy (higher rates) can help reduce demand by making loans more expensive. If you can’t afford the payments, you are less likely to buy that house, car, etc. Businesses are less likely to expand. In time, this brings inflation back down.

The FOMC tries to calibrate policy to the r-star “natural rate” which, while it certainly exists, is unknowable because we have no real-world comparisons that are free of central bank manipulation.

It is possible, at least during the post-pandemic recovery period, that the policy stance that represents neutral has increased.

If the cause and effect of monetary policy could be attributed to known factors, the Fed wouldn’t need a committee. A spreadsheet would suffice. They have a committee precisely because all this is so subjective.

Many bemoan (correctly, I think) the growing wealth and income disparity in this country. But one of the main contributors to wealth disparity has been the extraordinarily easy monetary policy of the last 25 years.

We have to face the world as it is, and I don't think we're going to move away from a top-down monetary policy. It benefits both governments and banks.

John Mauldin 10 February 2024

https://www.mauldineconomics.com/frontlinethoughts/desperately-seeking-neutral