When Economists Navigate by the Stars

Thomas Lubik

Econ Focus, 2024, vol. 24, issue 1Q/2Q, 32

Abstract: Monetary policy is often likened to steering a ship. For instance, the key economic policy concept of "commitment" is often visualized as Odysseus listening to the Sirens' call while tied to the mast of his ship; analysis and interpretation of the data often seems like the process of navigation by the currents, the wind, and the sky. Indeed, Fed Chair Jerome Powell suggested in August that monetary policymakers are frequently "navigating by the stars under cloudy skies." But what good is celestial navigation if the navigator cannot see the sun or the stars because of clouds? The Vikings, apocryphally, used sunstones, a mineral that polarizes light and allows determination of the sun's location with reasonable precision. Modern economists likewise use alternative methods to steer the policy ship to its desired long-run resting place. They employ statistical techniques to extract the presumed location of the stars from what they see in the data. At the Richmond Fed, we produce one measure of such a star, called r* (pronounced "r-star"), or in the economist's vernacular, the natural real rate of interest. r* is an old theoretical concept originated by the Swedish economist Knut Wicksell more than 100 years ago. It describes the (hypothetical) real interest rate toward which an economy would gravitate and at which it would be in balance, with neither inflationary nor deflationary pressures.

Keywords: monetary policy; inflation; R* (search for similar items in EconPapers)
Date: 2024
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