Inflation-Targeting versus Fiscal Stimulus

In the run-up to President Obama’s “State of the Union” address this evening, the nation’s monetary and fiscal policymakers seem, as often is true, to be working at cross-purposes.

According to reports published in The Wall Street Journal yesterday (January 24, 2011), Chairman Ben Bernanke at long last has concluded that the Fed should adopt an “official” inflation target of two percent per year. The same issue says, in a related article, that “several [unnamed] Republican lawmakers” will soon introduce bills to repeal the Humphrey-Hawkins Act’s mandate requiring the Fed, in exercising its monetary policy discretion, to pursue the twin—and ultimately incompatible—goals of promoting price stability and “maximum” full employment.

At the same time, however, President Obama is poised to take advantage of tonight’s national broadcast to promote new federal spending initiatives (as of yet-unknown amounts) intended to reduce America’s unemployment rate, which has been running at 10 percent of the labor force for the past two years. Taxpayer-financed “investments” in public education, infrastructure (roads and bridges), science and technology head the president’s list of so-called job-creating programs.

The federal government cannot “create” jobs in one sector of the economy without destroying them in another. That is because it is spending the taxpayers’ money rather than its own. Washington has, at least since the 1960s, been profligate and has little or no incentive to exercise either monetary policy or fiscal policy discipline. It can keep the rate of inflation low or it can print money to reduce the nation’s unemployment rate to tolerable levels, but it cannot do both.

Public policy predictability is the key to private economic prosperity. Chairman Bernanke cannot credibly pursue his recent conversion to a low-inflation regime unless the executive branch cooperates by reducing spending, cutting taxes, eliminating regulatory red tape and, in general, allowing wealth-creating entrepreneurship to flourish

President Obama’s 2001 perspective on the “State of the Union” is apt to be (mis-)interpreted as a Clintonian move to the center, launching his 2012 reelection campaign. Caveat emptor.