Krugman's reality problem
Paul writes that Rick Perry and inflation hawks on the FOMC are stopping Ben Bernanke from implementing a Fed policy that would be effective in increasing employment and growth.
He argues that for these reasons Bernanke is not acting on the advice he gave to Japan in 2000 about unorthodox policies to combat their situation which has parallels with ours.
Monetary economics superstar Michael Woodford makes a similar, though more nuanced, argument as well.
In both cases, the policy they want Bernanke to follow is to announce that the Fed will tolerate/encourage/create and sustain higher inflation than the Fed actually likes for some number of years in the future.
the only way for monetary policy to be effective in a liquidity trap was via expectations: the central bank had to convince the public that it would sustain monetary expansion even after the trap was over.
Yes, and if Grandma had wheels, she'd be a Harley.
People, the Fed has no commitment mechanism. For their policies to be credible, they must be time-consistent, meaning that they must be in the Fed's best interest AT THE TIME THEY HAPPEN (in each period).
The Fed simply cannot announce a time-inconsistent policy path and get the public to base their expectations on this non-credible announcement.
I am not a big Fed fan, but let's not excoriate them for failing to do the impossible.