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The Federal Reserve could have cut short the Great Recession by a year if it had set a 4 per cent inflation target in 1984, but raising the target now would probably do little to help the economy, researchers said on Saturday.
Boston Fed President Eric Rosengren and Minneapolis Fed President Narayana Kocherlakota recently have floated raising the US central bank's current 2 per cent inflation target to give it more room to cut rates during economic downturns.
The idea has not gained much traction in part because the Fed does not want to be seen as fickle about its commitments.
In a paper presented at the Fed's global central banking conference here, S Boragan Aruoba of the University of Maryland and Frank Schorfheide of the University of Pennsylvania showed how setting a 4 per cent inflation target in 1984 would have allowed the Fed to cut rates more sharply than it was able to do during the 2007-2009 financial crisis.
Under that scenario, they said "the return of inflation to average levels is even quicker and recovery of Gross Domestic Product (GDP) takes about a year less than under the historical policy."
