Which job would be easier?

Which would make the job of the Federal Reserve easier, an appreciating or a depreciating U.S. dollar?

• Answer this question assuming the recent reduction in the Fed Funds rate that was designed to offset the negative impact of the sub-prime lending problem has been deemed successful; and as a result, the Federal Reserve plans to now focus its attention on controlling inflation in the U.S. Which would make the job of the Federal Reserve easier, an appreciating or a depreciating U.S. dollar? Why?

• Answer:

  Interesting.... So let's say the interest rate cut of late (and the one coming soon) begins to work and stabilizes the sub-prime mess. We already have low umemployment, which is putting some pressure on inflation, and a number of commodity prices (especially oil, but milk even) are headed up. And the weak dollar is likely to lead to inflationary pressure on imports (not to mention that it could lead to an increase in exports, which stimulates increased production levels for exporters, putting more pressure on inflation through labor costs). So it looks like the Fed will not be able to maintain the low interest rates for long, right? But what else might happen? There is still a question of consumers. If the costs of imports increase, consumers may simply buy less. The reduced spending would keep economic growth low, reducing demand and reducing inflationary pressure. And this would allow the Fed to keep interest rates low, and keep the dollar down at current levels compared to Euro and sterling, which would mean a shift in the trade imbalance. If this lower consumer spending also meant an increase in savings, it means the US needs to borrow less from other nations, balancing the capital account, which means a reduction in the trade imbalance. Could it be possible to have a more balanced current and capital account, higher employment, and still no heavy inflation? I think it depends more on the US consumers than it does on the Fed...