Question

Explain the Federal Reserve’s just do it approach to monetary policy? What are advantages and disadvantages?

Answer 1

The main basis of Federal Reserve's "just do it" approach is to be pro-active than being reactive. This can also be termed as pre-emptive monetary policy. To elaborate, when the Federal Reserve feels that inflation can trend higher in the economy, the Federal Reserve starts conducting tight monetary policies. It is entirely possible that inflation remains subdued than trend higher. However, the Federal Reserve acts on expectations to pursue tight policies.

The advantage of this policy is that the Federal Reserve is ahead of the curve and when the central bank pursues tight monetary policy to curb potential inflation, it has ensured that inflation remains in check. On the other hand, the disadvantage of this policy is that inflation can remain subdued and if economic growth is just stabilizing, there can be renewed downturn in the economy on the back of tighter monetary policies.

The same applies to Federal Reserve expecting slowdown and decline in inflation. The Federal Reserve can adopt a pre-emptive monetary policy and cut interest rates well before any slowdown or recession. If the economy avoids recession, the risk with expansionary monetary policy is that it leads to too much each money and asset bubbles in the economic system.

Therefore, the clear advantage of the "just do it" approach is that the central bank stays ahead of the curve and if the predicted event actually occurs, the central bank already has policies in place to counter that. The disadvantage is that if the event does not happen, it can result in recession or asset bubbles in the economy.