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December 1982

The Fed and the Real Rate of Interest

by G.J. Santoni and Courtenay C. Stone

During its last session, which ended on December 23, 1982, the 97th Congress considered several bills that were intended to achieve “balanced monetary policy.” Each bill proposed that the Federal Reserve focus its policy actions on the level of real interest rates as well as the quantity of money. There are several questions that immediately arise when considering the implementation and usefulness of real interest rate targeting for Federal Reserve policy. Which of the host of nominal interest rates should be chosen as the one on which to focus? Which of the wide variety of price indexes should be used to obtain the inflation measure necessary to derive the real rate? What should policymakers do when different real rate measures yield different signals? What should policymakers do when their real rate targets conflict with their monetary aggregate growth targets?