The Fed Is Taking a New Approach to Inflation

The Federal Reserve’s annual Jackson Hole conference will be a virtual affair this year, but that doesn’t mean it will be any less eventful. Speculation has been rising in recent weeks that policy makers will use the confab to strongly signal that they are poised to change their approach to monetary policy. More specifically, they will most likely embrace a more relaxed view on inflation.

What this means is that the central bank will tolerate an inflation rate that exceeds its 2% target for an extended period before raising interest rates. The reason policy makers would do that is to foster economic growth and make sure they aren’t prematurely stamping out any recovery from the worst recession since the Great Depression. Bloomberg Opinion columnists have some thoughts on inflation:

The Fed’s Long-Awaited Rethink on Monetary Policy:  “Another idea is to change forward guidance to tell investors that overshoots of future inflation will be tolerated or even deliberately engineered. This might take various forms — such as a commitment to maintain 2% inflation on average over a span of years, so that undershoots would require overshoots. Or the Fed could switch to a target for the level of future prices rather than the rate of inflation. This would have a similar effect, again requiring periods of higher-than-target catch-up inflation. The implicit promise in both cases is that interest rates would stay low for longer than the current approach dictates.” — The Editorial Board

The Fed Is Setting the Stage for a Major Policy Change: “For the Federal Reserve, this time really is different. Having learned a hard lesson in the last recovery — don’t tighten monetary policy too early — the central bank is leaning in the opposite direction. In practice, that means the Fed will not just emphasize actual inflation over forecasted inflation, but will also attempt to push the inflate rate above its 2% target. It’s a whole new ballgame.” — Tim Duy

Worried About Inflation? Bonds and Gold Don’t Care: “Why should inflation rise this time when it failed to respond to the huge asset purchases made by the Federal Reserve and other central banks after the last crisis? This thread by Jens Nordvig of Exante Data LLC sums up the argument neatly. Last time around, asset purchases were coupled with government austerity. This led to rising asset prices and rising inequality, but not to price inflation. This time, with far greater fiscal expansion, the asset purchases will find their way into buying actual stuff. That could be inflationary. That at least is the inflationists’ argument for why it could be different this time, which will be tested over the months and years to come.” — John Authers

Inflation Is Actually a Lot Higher Than You Think: “What if our governments aren’t measuring consumer prices correctly? Is it possible that inflation is actually lot higher? Covid-19 has overhauled our spending patterns entirely, not least because of social distancing rules. We’re laying out less on transportation, restaurants and hotels, and splurging on food, because — like it or not — we’re all home chefs now. This sudden change can introduce significant biases in the consumer price index, according to a new study from Harvard Business School.” — Shuli Ren

Don’t Sweat a Temporary Spike in Consumer Inflation: “July’s surprisingly strong consumer price data may raise understandable fears that inflation is making a comeback. After all, the Fed is aggressively supporting the economy, Congress has allocated trillions of dollars in fiscal relief, and gold has soared to record highs. But what's really happening is that pandemic-related supply and demand dynamics are distorting price signals in the short term. While we might get hot inflation prints for a few months, we should expect them to get back to normal as production does the same.” — Conor Sen

More Reading

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Robert Burgess is the Executive Editor for Bloomberg Opinion. He is the former global Executive Editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.

©2020 Bloomberg L.P.

BQ Install

Bloomberg Quint

Add BloombergQuint App to Home screen.