How the Fed Chose its Targets
Posted at noon on Dec. 13, 2012
The Federal Reserve’s new unemployment and inflation benchmarks for determining when to raise interest rates may seem arbitrary, but the Financial Times walks through the Fed’s reasoning.
“The Fed came up with the numbers, said Mr Bernanke, by first asking how interest rates would change ‘under so-called optimal policy’… Optimal policy works by running thousands of mathematical simulations of the economy and then choosing the interest rate policy that kept both inflation and unemployment closest to target.”
“Both for inflation and unemployment, it has looked at the optimal policy path, and then aimed off it a bit to allow for uncertainty and shocks to the economy.”