The Fed has a range of intermediate targets, but this generally breaks down into a choice between monetary aggregates or interest rates. This is an either/or decision because the Fed cannot pursue both of these targets simultaneously. Setting an intermediate target in terms of a monetary aggregate means that any shift in money demand will result in changes to the interest rate. Similarly, setting an intermediate target in terms of an interest rate means that any shift in the money demand will have to be met with an adjustment to the money supply if we want to hold the interest rate constant. The bottom line is that if we choose one target, the other must be permitted to float. When the Fed makes a decision on which intermediate target to use, it evaluates them on the following three criteria: 1) measurability, 2) controllability and 3) predictability. The intermediate target has a direct impact on the desired monetary goal, but cannot be directly influenced by the policy tools. For this reason the Fed also establishes operating targets. Operating targets are directly influenced by the Fed’s policy tools, and in turn, have a directly impact the intermediate target. Thus, the final piece is provided and we have a series of linkages that connect the Fed’s policy tools to its monetary goals. Operating targets are also evaluated according to the same three criteria as the intermediate targets. The key here is that the two targets must be compatible. The operating target and intermediate target must both be either an interest rate target or a monetary aggregate target. Common operating targets are non-borrowed reserves and the federal funds rate Choosing an Intermediate Target Within the context of the previous explanation the Fed must make a decision of which goals to pursue and targets to track. Since the Fed has stated that it has decided to pursue price stability as its primary goal, it is then necessary to decide upon an appr...
