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A Subtle Shift in FOMC Policy

At his second press conference, Chairman Bernanke was asked whether the Fed would ever institute an explicit numerical inflation-targeting policy. In responding, he confessed he has always been a fan of that type of monetary policy. Recent adjustments in some of the Fed’s communications suggest that the Chairman may be gaining a few more Federal Open Market Committee (FOMC) participants on his side. Adopting an inflation target is a topic that has gotten a lot of attention lately, and a review of the Committee’s most recent minutes and the public discourse should help shed some light on why.

The minutes of recent FOMC meetings show that at least some FOMC members have been considering the costs and benefits of an explicit inflation target as an official policy goal. As expressed in the minutes, “a few participants noted that the adoption by the Committee of an explicit numerical inflation objective could help keep longer-term inflation expectations well anchored.” This statement is not a new development, however, as it has appeared in each of the last three sets of minutes published. Perhaps more important was a change in the Chairman’s interpretation of the Committee’s inflation projections.

Figure 1. PCE Prices and Long-Run Projections

In the past, the Fed has argued that in order to maintain price stability—one half of its dual mandate—it must achieve a rate of inflation that is consistent with the mandate over the medium term. Until recently, this rate was not specified but was implicitly understood by market participants to be 2 percent, or just a little bit less. Because inflation is approaching that level and economic growth is still below its long-run trend, some contention has emerged as to whether the Fed will stick to that implicit, mandate-consistent target or let inflation rise to spur growth.

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