I am amused by the constant discussion by the Federal Reserve governors and the Fed Chair about raising the federal funds rate. As next week is the last FOMC meeting of the year – this is the last chance for the Fed to begin to “normalize” interest rates this year.
During the Great Recession, the Fed reduced the federal funds rate to literally zero percent to “stimulate the economy”. These zero rates continue to the present time.
As defined:
In the United States, the federal funds rate is “the interest rate” at which depository institutions (banks and credit unions) actively trade balances held at the Federal Reserve, called federal funds, with each other, usually overnight, on an uncollateralized basis.
The purpose of this “lending window” is to provide liquidity directly to banks so that they can loan money to the private sector. The effect of the federal funds rate on bank liquidity is well known – however, the effect outside the banking system is not. Many blame the Fed for asset bubbles caused by their manipulation of the rate.
The US dollar is the major international trading currency and the funds to “stimulate” flow to the points where the most money can be made – and much of this flow went outside the USA.Economic theory on monetary policy has yet to come to grips with a currency that has no borders.
Recently, the threat of raising interest rates has caused the dollar to strengthen as dollars used in “carry trade” flow back causing the dollar to strengthen (there are other reasons also for dollar strengthening).This is detrimental to USA exports. Similarly, there are other reasons USA exports have declined. This is the problem with monetary policy – multiple dynamics are in play – and it seems all the good caused by zero bound federal funds rates have been met by opposing dynamics (and much of these opposing dynamics were caused by the zero bound federal funds rate itself). No good deed goes unpunished in a feedback spiral.
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