The idea of "neutral" refers to a rate that is neither so low that it stimulates excess spending, nor is it so high that it restricts spending and price increases. Most economists agree that neutral is between 3 and 5 percent. Since June, 2004 the Fed has raised its funds rate target from 1% to 4% and is expected to raise the target to 4.25% next week.
Since the Fed has a history of overshooting neutral, Rep. Jim Saxton (R, N.J.), chairman of the Joint Economic Committee of Congress asked Greenspan how he would know when neutral had been reached and whether the Fed might go past neutral.
While neutral "is a useful theoretical construct," practical difficulties "limit its usefulness," Mr. Greenspan wrote in a response released by the committee. Definitions of neutral vary, as do the methods for calculating it, and its level may change with economic conditions, he added.Sorry Alan, but it is important to have an idea where neutral is, it's not just a "theoretical construct".
"It is impossible to know with any certainty when the neutral rate has been reached." Moreover, at times, "when inflation is too high or too low -- aiming for a neutral funds rate in the near term would not be appropriate," Mr. Greenspan wrote.
It's time for Alan to be done. He's done a respectable job, but we can do better.