00:00So let me turn to the current crisis in the Middle East and the effect on energy prices.
00:04Indeed, this classroom is familiar with that question from the last problem set,
00:09where we asked, how would you advise the Fed to respond to the rising price of oil?
00:15And we teach that when there's a demand shock, it's a pretty natural set of recommendations that emerge for the
00:21Fed.
00:21But when there's a supply shock, like this energy price shock, there's trade-offs that the Fed has to juggle.
00:28How do you make those trade-offs in general, and how do you make those trade-offs in this particular
00:32instance?
00:32And can you help everyone with their PSAT?
00:34Maybe they should tell me.
00:37Sure.
00:38So you start with what you said.
00:41You know, our tools work on demand.
00:43Higher rates will tend to moderate demand.
00:45Lower rates will tend to stimulate demand.
00:47And when you have a supply shock, our tool doesn't have meaningful shorter-term effects on supply.
00:55So when you have a supply shock, the first question is, do you respond to it?
00:59And the classic question has been around energy, just in general.
01:03I'm not really speaking about the current situation, although I'll get to that, I guess.
01:07But, you know, energy shocks have tended to come and go pretty quickly.
01:12Monetary policy works with long and variable lags, famously.
01:15And so by the time the effects of a tightening in monetary policy take effect, you know, the oil price
01:24shock is probably long gone.
01:25And you're weighing on the economy at a time when it's not appropriate.
01:29So the tendency is to look through any kind of a supply shock.
01:33But a critical, essential aspect of that is you have to carefully monitor inflation expectations because you can have a
01:41series of these supply shocks.
01:43And that can lead, you know, the public generally, businesses, price setters, households, lead them to start expecting higher inflation
01:51over time.
01:52Why wouldn't they?
01:53At the end of a certain number of years, inflation is now just higher.
01:56And that can happen.
01:57So you monitor that very, very carefully.
02:00Also, in the current situation, you have to be mindful of the whole broader context.
02:05And the broader context is we're still, you know, we've been coming down close to 2% post-pandemic, but
02:11we've never actually, you know, gotten right and stayed at 2%.
02:16So it's been a while.
02:18And we're very mindful of that fact.
02:21Inflation expectations do appear to be well anchored beyond the short term.
02:24But nonetheless, it's something as we will eventually maybe face the question of what to do here.
02:30We're not really facing it yet because we don't know what the economic effects will be.
02:34But we'll certainly be mindful of that broader context when we make that decision.
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