An operating target is a specific number, such as an interest rate or another financial metric, that a central bank sets to guide its monetary policy efforts.
Once the operating target is determined, the central bank implements policies designed to either loosen or tighten the money supply within the economy to achieve and maintain the target.
Key Takeaways
- The operating target serves as an intermediate goal driving the central bank’s daily actions.
- Comparable to a car’s speedometer, an operating target provides the central bank feedback for the monetary decisions made to energize the economy.
- The U.S. Federal Reserve focuses on the federal funds’ interest rate as its primary operating target for monetary policy.
Understanding an Operating Target
Central banks, like the U.S. Federal Reserve, undertake goals related to a nation’s overall economic health. However, they can’t directly control consumer prices or GDP. Therefore, they monitor intermediate targets—economic variables impacted by monetary policy that correlate with overall economic performance.
These goals, which a central bank prioritizes, are known as operating targets.
How the Operating Target Is Used
A central bank uses an operating target much like a driver uses a car’s speedometer. A driver aims to reach a destination balancing timeliness and safety. The driver controls the throttle, directing fuel to the engine, and uses the speedometer to maintain the desired speed.
The same concept applies: a speedometer measures rotational speed, correlated to ground speed, providing a visible gauge of the car’s speed.
A central bank chooses an operating target to assess and adjust the money supply to achieve policy goals. Insufficient money supply slows the economy, while an excess can lead to hyperinflation or an overheated economy.
In essence, operating targets enable central banks to manage real-time economic variables they can influence directly or are closely connected to their overall performance indicators.
Federal Reserve Operating Targets
Daily and long-term monetary policy decisions by the U.S. Federal Reserve rely on operating targets. During each meeting, the Federal Reserve Board (FRB) sets the target value.
The FRB utilizes tools, primarily Permanent Open Market Operations, to achieve these targets. Adjustments often focus on the federal funds rate—a short-term interbank interest rate. Decisions are publicly accessible via the Federal Reserve website.
The Fed Funds Rate as a Target
Based on current and expected economic conditions, the Fed tailors the target for the fed funds rate, buying or selling government bonds to regulate bank reserve supply for interbank overnight lending.
This action aims to impact overall bank lending and economic performance. Additionally, the Fed leverages public announcements about its operating target to manage market expectations with forward guidance about future target rates.
Related Terms: Federal Reserve, Federal Funds Rate, Open Market Operations.
References
- Board of Governors of the Federal Reserve System. “Open Market Operations”.
