In historic shift, Fed sets inflation target

Wed Jan 25, 2012 6:35pm EST

(Reuters) - The Federal Reserve took the historic step on Wednesday of setting an inflation target, a victory for Chairman Ben Bernanke that brings the Fed in line with many of the world's other major central banks.

The U.S. central bank, in its first ever "longer-run goals and policy strategy" statement, said an inflation rate of 2 percent best aligned with its congressionally mandated goals of price stability and full employment.

However, it said it was not appropriate to adopt a fixed goal for employment because the level of unemployment that can be achieved without sparking inflation is not largely determined by monetary factors.

The inflation target is at the high end of what was traditionally seen as an informal target range of roughly 1.7 percent to 2 percent. It caps a long crusade by Bernanke to open a window onto what for years had been the Fed's purposefully opaque and secretive deliberations.

"Communicating this inflation goal clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the committee's ability to promote maximum employment in the face of significant economic disturbances," the Fed said.

Skeptics, particularly among congressional Democrats, have in the past worried that an explicit inflation target would relegate the full employment goal to the back burner.

But Bernanke, perhaps with one eye to Capitol Hill, was careful to stress that setting an inflation target did not mean the central bank would lose sight of the other side of its dual mandate.

"We are not absolutists," he said at a news conference. "If there is a need to let inflation return a little bit more slowly to target to get a better result on unemployment, then that is something that we would be willing to do."

The Fed would not make meeting its inflation target its top priority and consider a healthy job market a secondary goal, Bernanke said, as he dismissed the label of "inflation targeter."

"We are a dual-mandate central bank. We put equal weight on price stability and maximum employment," he said.

TIMELY MOVE

While Bernanke, the plainspoken successor of Alan Greenspan, has touted a numerical inflation goal as a cornerstone of central bank best practices for years, the move on Wednesday was timely because it could help quell nagging doubts that the Fed's unprecedented easy money policies are setting the stage for a nasty bout of inflation.

The U.S. economy strengthened toward the end of last year, with the unemployment rate dropping to a near three-year low of 8.5 percent. If the rebound falters, the inflation target could help pave the way to more bond buying.

"I think this is a dovish move showing the Fed is concerned about deflation," said Eric Stein, portfolio manager at Eaton Vance in Boston, who characterized the inflation target as "a big deal."

Since early 2009, Fed officials have provided their views on the longer-run inflation rate they deemed appropriate, projections that were widely seen as an informal target.

They provide similar long-run projections for unemployment that given an indication of how low a jobless rate officials think is sustainable without generating inflation.

Those figures have moved up a bit in fits and starts -- a suggestion that a growing number of Fed officials believe the 2007-2009 recession left lasting economic scars.

Fed officials on Wednesday held their longer-run inflation forecasts at 1.7 percent to 2 percent, and signaled comfort with the outlook for prices. Their favored core price gauge was up 1.7 percent in the 12 months through November.

They also kept their long-run employment projection steady at 5.2 percent to 6.0 percent, but that range had been 4.8 percent to 5 percent in early 2009.

The Fed will reaffirm and "make adjustments as appropriate" to the long-term goals statement each January, it said, leaving open the possibility it could adjust its new target.

The statement was released simultaneously with another first for the Fed: published charts of individual policymakers' projections for the appropriate path of the benchmark federal funds rate.

(Additional reporting by Ann Saphir, Karen Brettell and Mark Felsenthal; Editing by Padraic Cassidy and Leslie Adler)

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Comments (8)
NowImPOd wrote:
Money as Debt. Google it.

Jan 25, 2012 3:06pm EST  --  Report as abuse
tiktin wrote:
Of course the target inflation rate should be zero. It is very dangerous to give abstract theorists the kind of power possessed by the federal reserve open market committee. Of course their actions are partly political. The fed has not pursued a counter cyclical monetary policy in more than ten years and that, of course, is part of the reason for our problems. I believe they haven’t done so simply because they haven’t had the guts. People are obsessed with the idea that low interests rates are always good and raising interest rates is always bad. But that is not always the case. The fed’s low interest rate policy is taking $665 billion dollars a year out of the market place as a result of lower interest payments. That money is mostly sitting on the banks’ balance sheets doing nothing. In theory that is supposed to be offset by an increase in lending; but a) that has not happened, and b) part of our problem is that we have far too much debt already and need to pay down the debt we have before we can restore a sound economy. Low interest rates are, thus, counterproductive. The other thing to be said is that employment depends on many things, of which monetary policy is only one. The idea that the federal reserve can control both inflation and employment, as required by the Humphrey Hawkins Act, is absurd. The congress should repeal the Humphrey Hawkins Act, which is cynical political document, and make clear that the sole mission of the open market committee is to preserve the stability of the currency -i.e., maintain inflation as close to zero as possible.

Jan 25, 2012 4:39pm EST  --  Report as abuse
jroliver wrote:
I know old math when 2+2=4. Whith political math the answer could be -17 or +34. Just stop the BS quit trying to control the economy

Jan 25, 2012 4:46pm EST  --  Report as abuse
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