Question

What is the dual mandate of the Federal Reserve? How are these two things consistently at odds? Explain. How does this make the job of the Federal Reserve tricky? Explain.

Answer 1

The Fed is assigned with the task of stabilizing price i.e. maintaining low inflation and maximizing employment. These two objectives are called dual mandates.

Inflation and unemployment generally move in the opposite direction. When the economy grows and output increases, the unemployment falls; however, the price level increases because of inflationary pressure. On the other hand, when the economy contracts and output falls, unemployment rises; however, the price level decreases. So, price stability is at odds with high employment.

The job of the Fed is tricky as if it takes a contractionary monetary policy to lower inflation by decreasing the money supply, this will contract the economy, reduce economic activities and increase unemployment. On the other hand, if it wants to reduce unemployment and takes expansionary monetary policies, the price level would go up because of the increased money supply. So, the fed needs to balance its policies in a way that it fulfills its dual mandates.