Sources used in this document:

The real target of the short-term interest rate manipulation is inflation: the Fed's goal is 2% inflation in the long-term. The index most commonly used by the Fed to gauge inflation is the core personal consumption expenditure price index or PCE. The chart below illustrates the Fed's performance with respect to the 2% inflation target over the past decade and a half.

Historical Fed action is interesting, but not instructive for the present economic climate. To wit: In 1990, short-term interest rates were driven from 9% down to 3%, and in 2001, the rates were driven from 6.5% to 1%. The 2008-2009 recession saw rates drop from 5.25% to zero. But this "zero lower bound" just caused investors to hoard cash and not lend -- the recession deepen and monetary policy could not gain traction. When the private sector won't spend and monetary policy is ineffective, the government must step up to the plate. Although economists assume positions in different camps -- and tend to exhibit an exaggerated loyalty to their theories, a Keynesian approach is a solid framework for addressing depressions and recessions. Moreover, behavioral economics makes it plain that the realities of the finance markets need to be integrated into macroeconomics. The Fed's quarterly easing remains a viable tool for positive impact, but the time lags in monetary policy are unpredictable, other than they are long. The Fed should continue the current interest rate for several quarters -- all things remaining equal.

Open-market operations impact the level of reserves that are in the banking systems through the Fed's continuous buying and selling of U.S. government securities in the financial markets. The Fed bases its decisions about transactions with securities dealers according the open market in which the securities dealers compete. This most commonly used tool of monetary policy influences the volume and the price of credit, and is particularly important with respect to the rate at which banks borrow reserves from each other. The actual rate is determined by the open market -- but the Federal Open Market Committee (FOMC) sets a target rate, and this is the subject of news reports on the Fed's action