To sum up, the baseline outlook is for continued progress toward maximum employment, with inflation returning to levels consistent with our goal of inflation averaging 2 percent over time. Let me now turn to how the baseline outlook and the associated risks and uncertainties figure in our monetary policymaking.
Implications for Monetary Policy
The period from 1950 through the early 1980s provides two important lessons for managing the risks and uncertainties we face today. The early days of stabilization policy in the 1950s taught monetary policymakers not to attempt to offset what are likely to be temporary fluctuations in inflation.15 Indeed, responding may do more harm than good, particularly in an era where policy rates are much closer to the effective lower bound even in good times. The main influence of monetary policy on inflation can come after a lag of a year or more. If a central bank tightens policy in response to factors that turn out to be temporary, the main policy effects are likely to arrive after the need has passed. The ill-timed policy move unnecessarily slows hiring and other economic activity and pushes inflation lower than desired. Today, with substantial slack remaining in the labor market and the pandemic continuing, such a mistake could be particularly harmful. We know that extended periods of unemployment can mean lasting harm to workers and to the productive capacity of the economy.16
History also teaches, however, that central banks cannot take for granted that inflation due to transitory factors will fade. The 1970s saw two periods in which there were large increases in energy and food prices, raising headline inflation for a time. But when the direct effects on headline inflation eased, core inflation continued to run persistently higher than before. One likely contributing factor was that the public had come to generally expect higher inflation—one reason why we now monitor inflation expectations so carefully.17
Central banks have always faced the problem of distinguishing transitory inflation spikes from more troublesome developments, and it is sometimes difficult to do so with confidence in real time. At such times, there is no substitute for a careful focus on incoming data and evolving risks. If sustained higher inflation were to become a serious concern, the Federal Open Market Committee (FOMC) would certainly respond and use our tools to assure that inflation runs at levels that are consistent with our goal.
Incoming data should provide more evidence that some of the supply–demand imbalances are improving, and more evidence of a continued moderation in inflation, particularly in goods and services prices that have been most affected by the pandemic. We also expect to see continued strong job creation. And we will be learning more about the Delta variant's effects. For now, I believe that policy is well positioned; as always, we are prepared to adjust policy as appropriate to achieve our goals.
That brings me to a concluding word on the path ahead for monetary policy. The Committee remains steadfast in our oft-expressed commitment to support the economy for as long as is needed to achieve a full recovery. The changes we made last year to our Statement on Longer-Run Goals and Monetary Policy Strategy are well suited to address today's challenges.
We have said that we would continue our asset purchases at the current pace until we see substantial further progress toward our maximum employment and price stability goals, measured since last December, when we first articulated this guidance. My view is that the "substantial further progress" test has been met for inflation. There has also been clear progress toward maximum employment. At the FOMC's recent July meeting, I was of the view, as were most participants, that if the economy evolved broadly as anticipated, it could be appropriate to start reducing the pace of asset purchases this year. The intervening month has brought more progress in the form of a strong employment report for July, but also the further spread of the Delta variant. We will be carefully assessing incoming data and the evolving risks. Even after our asset purchases end, our elevated holdings of longer-term securities will continue to support accommodative financial conditions.
The timing and pace of the coming reduction in asset purchases will not be intended to carry a direct signal regarding the timing of interest rate liftoff, for which we have articulated a different and substantially more stringent test. We have said that we will continue to hold the target range for the federal funds rate at its current level until the economy reaches conditions consistent with maximum employment, and inflation has reached 2 percent and is on track to moderately exceed 2 percent for some time. We have much ground to cover to reach maximum employment, and time will tell whether we have reached 2 percent inflation on a sustainable basis.
These are challenging times for the public we serve, as the pandemic and its unprecedented toll on health and economic activity linger. But I will end on a positive note. Before the pandemic, we all saw the extraordinary benefits that a strong labor market can deliver to our society. Despite today's challenges, the economy is on a path to just such a labor market, with high levels of employment and participation, broadly shared wage gains, and inflation running close to our price stability goal. Thank you very much.
References
Bodenstein, Martin, Christopher J. Erceg, and Luca Guerrieri (2008). "Optimal Monetary Policy with Distinct Core and Headline Inflation Rates," Journal of Monetary Economics, vol. 55, supplement (October), pp. S18–S33.
Bordo, Michael D., and Athanasios Orphanides, eds. (2013). The Great Inflation: The Rebirth of Modern Central Banking. Chicago: University of Chicago Press.
Canon, Maria E., Marianna Kudlyak, and Marisa Reed (2015). "Aging and the Economy: The Japanese Experience," Federal Reserve Bank of St. Louis, Regional Economist, vol. 23 (October), pp. 12–13.
Davis, Steven J., and Till von Wachter (2011). "Recessions and the Costs of Job Loss (PDF)," Brookings Papers on Economic Activity, Fall, pp. 1–72.
Forbes, Kristin J. (2019). "Inflation Dynamics: Dead, Dormant, or Determined Abroad? (PDF)" Brookings Papers on Economic Activity, Fall, pp. 257–319.
Friedman, Milton (1958). "The Supply of Money and Changes in Prices and Output," in The Relationship of Prices to Economic Stability and Growth: Compendium of Papers Submitted by Panelists Appearing before the Joint Economic Committee, Joint Committee Print, March 31, 85 Cong. Washington: Government Printing Office, pp. 241–56.
Goodhart, Charles, and Manoj Pradhan (2020). The Great Demographic Reversal: Ageing Societies, Waning Inequality, and an Inflation Revival. Cham, Switzerland: Palgrave Macmillan.
Mishkin, Frederic S. (2007). "Headline versus Core Inflation in the Conduct of Monetary Policy," speech delivered at the Business Cycles, International Transmission and Macroeconomic Policies Conference, HEC Montreal, Montreal, October 20.
Obstfeld, Maurice (2020). "Global Dimensions of U.S. Monetary Policy," International Journal of Central Banking, vol. 16 (February), pp. 73–132.
Orphanides, Athanasios, and John C. Williams (2013). "Monetary Policy Mistakes and the Evolution of Inflation Expectations," in Michael D. Bordo and Athanasios Orphanides, eds., The Great Inflation: The Rebirth of Modern Central Banking. Chicago: University of Chicago Press, pp. 255–88.
Powell, Jerome H. (2019). "Challenges for Monetary Policy," speech delivered at "Challenges for Monetary Policy," a symposium sponsored by the Federal Reserve Bank of Kansas City, held in Jackson Hole, Wyo., August 23.
1. See, for example, figure 5. Return to text
2. This figure includes both the decline in the number reporting themselves as employed in the Household Survey as well as the BLS' estimate of those who misreported themselves as employed but not at work rather than on temporary layoff. Return to text
3. From the peak to the trough quarter, gross domestic product dropped 10 percent last year, compared with 3.8 percent in the 2007–09 recession. Return to text
4. For example, the consensus forecast reported by Blue Chip Economic Indicators in April 2020 put the unemployment rate in the second quarter of 2021 at 7.4 percent, compared with the actual value of 5.9 percent. Return to text
5. An alternative measure that adjusts for the misclassification of some unemployed workers as employed but not at work (as reported by the Bureau of Labor Statistics) and for diminished labor force participation induced by the pandemic (as estimated by Federal Reserve Board staff) currently stands at 7.8 percent, also a post-pandemic low. Return to text
6. Factors holding back job gains are more thoroughly discussed in the July 2021 Monetary Policy Report, which is available on the Board's website at https://www.federalreserve.gov/monetarypolicy/files/20210709_mprfullreport.pdf. Return to text
7. These values reflect data through July as released on August 27, 2021. All other statements about personal consumption expenditures and associated prices reflect data through June and do not include the August 27, 2021 release covering July. Return to text
8. Declines in used car prices would begin holding down 12-month inflation once most of the earlier price increases have fallen out of the 12-month window. Return to text
9. The lower inflation in durable goods is probably due to a number factors, including faster productivity growth in durable goods than in services and globalization. Return to text
10. If wages rise in line with inflation and labor productivity growth, then real unit labor costs (or the labor cost of producing one unit of output) to businesses are constant. Wages may grow slower or faster than inflation plus productivity growth for extended periods because of changing structural factors without being reflected in inflation. Ultimately, however, persistently rising real unit labor costs will put upward pressure on prices. Return to text
11. The way the CIE combines the underlying measures means that it will tend not to be affected by underlying movements that are unique to individual measures; the CIE will reflect movements that are more common across underlying measures. Return to text
12. On a Q4-over-Q4 basis, the August 13, 2021, Survey of Professional Forecasters reports a consensus forecast for total personal consumption expenditures inflation of 4.1 percent, 2.2 percent, and 2.3 percent for 2021 to 2023, respectively. The corresponding numbers for core inflation are 3.7 percent, 2.2 percent, and 2.1 percent, respectively. The August 10, 2021, Blue Chip Economic Indicators Forecast presents similar consensus forecasts for 2021 and 2022. Return to text
13. For views on this, see Canon, Kudlyak, and Reed (2015), Forbes (2019), Goodhart and Pradhan (2020), Obstfeld (2020). Return to text
14. For an opposing view, see Goodhart and Pradhan (2020), who argue that the globalization and demographic factors that had been fueling global disinflationary forces are now reversing and could give rise to an inflationary period. Even if we are near an inflection point, as Goodhart and Pradhan argue, demographic forces move slowly relative to the near-term policy horizon I am discussing here today. Return to text
15. As I discussed here two years ago, Milton Friedman first made this argument referring to the stop-and-go policies in the 1950s. See Powell (2019) and Friedman (1958, p. 241). Bodenstein, Erceg, and Guerrieri (2008) and Mishkin (2007) illustrate the problems that reacting to transitory sources of inflation can cause using two of the Board staff's models. Return to text
16. See, for example, Davis and von Wachter (2011). Return to text
17. See, for example, Orphanides and Williams (2013) on the role of de-anchored inflation expectations. This paper is in Bordo and Orphanides (2013), which discusses a wide range of related issues. Return to text
More Articles
- Chair Jerome H. Powell Remarks at the Stanford Business, Government and Society Forum
- 2024 Tax Filing Season Set for January 29; IRS Continues to Make Improvements to Help Taxpayers
- November 1, 2023 Chair Jerome Powell’s Press Conference on Employment and Inflation
- Board of Governors of the Federal Reserve System: Something’s Got to Give by Governor Christopher J. Waller
- Brief Remarks on the Economy and Monetary Policy Governor Michelle W. Bowman At the 2023 CEO and Senior Management Summit and Annual Meeting, sponsored by the Kansas Bankers Association, Colorado Springs, Colorado
- Jerome Powell's Semiannual Monetary Policy Report; Strong Wage Growth; Inflation, Labor Market, Unemployment, Job Gains, 2 Percent Inflation
- February’s Hot Data Releases: Governor Christopher J. Waller, Federal Reserve Board Frames a Few of the Issues Around Inflation and the Economic Outlook
- Congressional Budget Office: Federal Budget Deficit Totals $1.4 Trillion in 2023; Annual Deficits Average $2.0 Trillion Over the 2024–2033 Period
- Remarks by Secretary of the Treasury Janet L. Yellen at the Bureau of Engraving and Printing Facility in Fort Worth, Texas
- The Beige Book Summary of Commentary on Current Economic Conditions By Federal Reserve District Wednesday November 30, 2022