NEW YORK – Since food and energy prices have been quite volatile recently, this would be “an opportune time” for the Fed to announce “an explicit numerical inflation objective,” Federal Reserve Bank of Cleveland President Sandra Pianalto said Thursday.
“My own preference is 2% over the medium term, an inflation objective that is quite similar to the targets of many central banks around the world,” Pinalto told a conference in Rome, according to prepared text released by the Fed. “As much as the concept of `zero inflation’ appeals to me, 2% is a much more practical numerical objective than zero. An objective set much below 2% increases the likelihood that the FOMC would need to push short-term interest rates down to zero for an extended time to head off a deflation or to fulfill its mandate for maximum employment. As we are seeing today, keeping interest rates near zero complicates the monetary policy process.”
But, Pianalto said she’d oppose a numerical objective for unemployment. “The long-run sustainable rate of unemployment can move around for a variety of reasons, such as the demographic makeup of the population and changes in how labor markets function,” she said. “Since the Federal Reserve cannot know what the sustainable level of unemployment is, or how it will evolve over time, it should not set a numerical objective for unemployment.”
Setting an inflation target “need not imply any material change in the current conduct of monetary policy,” Pianalto said, noting that she believes the fed funds rate target will remain exceptionally low for an extended period.
The recovery has been “quite uneven,” and “has considerable ground to make up. History suggests that the effects of recent commodity price pressures on consumer price inflation are likely to be transitory. From my perspective, economic conditions, including low levels of resource utilization, subdued inflation trends, and stable long-term inflation expectations, warrant the continuation of our current monetary policy stance. Indeed, my outlook for economic growth and inflation assumes that we complete our asset purchase program as originally scheduled, and keep our federal funds rate target at exceptionally low levels for an extended period. As always, if my outlook for economic growth or inflation changes, I stand ready to adjust my view about what constitutes appropriate monetary policy.”
She sees economic growth “a bit above” 3% a year, and risks including the recent run up in food and energy prices appear “mild as long as the U.S. economy remains on a firmer footing.”
But, she noted, “if energy and commodity prices continue to increase sharply, people could start to worry about the consequences for inflation. The natural question in these times is whether the recent surge in oil prices will be enough of a driving force to cause a lasting increase in the rate of inflation in the United States. At this point, I don’t think it will.”
History indicates sharp rises in food and energy prices are usually followed by similarly sharp declines.
While she believes rates will remain accommodative for an extended perios, Pianalto said, “Eventually, the FOMC will begin to remove our policy accommodation. This process will involve raising the target for short-term interest rates, draining bank reserves to prevent an undue rise in the broad money supply, and reducing the size of our balance sheet to more normal levels. I believe that when the time comes, we have all the tools we need to make an exit from our current policy stance.”
