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Fed to Keep Rate Low Long Enough to Boost Inflation

Fed to Keep Rate Low Long Enough to Boost Inflation
(James Steidl/Dreamstime)

By Wednesday, 16 September 2020 05:33 PM Current | Bio | Archive

September 15,16 ‘20 FOMC Meeting

In a Nutshell: “With inflation running persistently below (its) longer-run goal, the Committee will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time.”

Decision: Fed funds rate target range remains at 0% to 0.25%.

The Federal Open Market Committee, in one of the more extensive statements it has made, attempted to explain in detail what its new monetary policy strategy meant. And they did a pretty decent job at that.

Boiling it down, the Fed will not raise rates until the economy reaches full employment and if that takes having inflation run above the 2% target for an extended period, not only is that acceptable but it is desirable.

Why is higher inflation OK? Because the Fed intends to hit its inflation target over time and on average. As the Committee noted, inflation has been running persistently below its target and to get back to the target, the economy must get stronger and inflation expectations have to be above 2%. The way to keep expectations up is to run hot. And the way to run hot is to keep rates down as long as necessary.

But there is more in this than just inflation. Indeed, inflation is probably job two or three for the Fed. The Fed Chair, in his press conference indicated that reaching full employment is a necessary condition before a rate hike could occur. Just getting to the target inflation is not enough. Importantly, the Fed is not defining full employment by any single measure, such as the unemployment rate. Mr. Powell indicated that other factors, such as wages and participation rates, would be taken into account as well. In other words, full employment is a subjective not an objective measure. To paraphrase the late Supreme Court Justice Potter Stewart: “The Fed will know it when it sees it.”

So, what does this all mean? Actually, not anything different from what I and many other economists have been saying for a while. The Fed will not be raising rates for quite some time. The best guess is at least two years, but that assumes the recovery is strong in both 2021 and 2022. (NOTE: The Fed’s economic projections do assume that.) If it moves back toward trend growth of roughly 2% sooner, then there may not be a rate hike for three years. And the Fed will keep doing what it has been doing to support the financial markets. That means more additions to its balance sheet by purchasing all types of assets.

So, if you are looking for a loan, especially a shorter-term one, you probably don’t have to worry about rates getting away from you for an extended period. But if you are a saver rather than an investor, don’t expect any relief soon, as savings rates, which are already at rock bottom, are going nowhere.

As for investors, if you think low rates help the equity markets, well you are going to have low rates for quite a while.

(The next FOMC meeting is November 4,5 2020.)

Joel L. Naroff is the president and founder of Naroff Economic Advisors, a strategic economic consulting firm.

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JoelNaroff
Inflation has been running persistently below its target and to get back to the target, the economy must get stronger and inflation expectations have to be above 2%.
fed, rates, inflation, economy
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2020-33-16
Wednesday, 16 September 2020 05:33 PM
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