Federal Reserve Announces Inflation Goal Shift: What It Means for Investors
As expected, Federal Reserve Chair Jerome Powell announced a shift in policy that stems from a year-long review that the Fed has done. In a speech entitled “Navigating the Decade Ahead,” the key shift in policy is a move to an “average inflation” target instead of a precise 2% target. The change suggests that the Fed will likely maintain its zero-interest-rate policy for several more years until it sees inflation rise, rather than acting pre-emptively to address inflation expectations.
Bygones are no longer bygones
The Fed’s shift in policy implies that it will allow inflation to run at a pace above 2% for a period of time to offset the undershooting of inflation over the past decade. It is often referred to as letting inflation run “hot” for a while—although it’s hard to argue that 2.5% to 3.0% inflation is “hot.” In the past, the Fed viewed each inflation reading discretely. The past was gone, and all that mattered was the present and prospects for inflation based largely on the unemployment rate.
Inflation has fallen short of 2% for most of the past decade
Source: Bloomberg. Personal Consumption Expenditures: All Items Less Food & Energy (Core PCE) (PCE CYOY Index), percent change, year over year. Monthly data as of 6/30/2020.