I’ve been saying for several years that the best person to manage our way out of the current economic doldrums would be George Balanchine (if only he weren’t dead) – because this will need to be the most carefully choreographed dance of monetary and fiscal policy in all history. The Federal Reserve will at some point need to raise interest rates that currently are on the floor (“at the zero bound,” in econ speak) and draw down a balance sheet that is orders of magnitude greater than its normal size, to head off inflation – all in a shaky economy nestled in a shaky world economy. Meanwhile, the fiscal policymakers will have to head off a mounting debt by slashing a far-oversized budget deficit, which is driven by complex structural problems with their own powerful political self-defense mechanisms – all the while avoiding crunching that same vulnerable economy, and somehow acting in harmony with the aforementioned independent Federal Reserve. It is a situation only an academic economist could love: It offers plenty of ivy-covered reward for writing theoretical papers which will never be tested in practice, and so have no real-world consequences.
And that is the good news. A recent more-practical (but still plenty wonkish) paper by two Federal Reserve economists, Christopher J. Erceg and Andrew T. Levin, explains that today’s labor market is not only painful, but also puzzling to policymakers. It identifies yet another unprecedented challenge that is layered upon all the others to make the path back to Normal, wherever that is (unfortunately not the town that is readily visible on the map of Illinois), even more tortuous.
The Erceg and Levin paper already has gotten plenty of press (for example, see a New York Times reference here), but is worth your attention if you have not seen a close discussion.