The Fed is Thinking About Getting Tough on Inflation

By at 26 January, 2022, 8:03 pm


by Raymond J. Keating –

It appears that the Federal Reserve is really thinking about getting tough on inflation.

However, in the latest Federal Open Market Committee (FOMC) statement, the Fed announced that it has left the target range for the federal funds rate between 0 percent and ¼ percent.

The Fed also noted, “Supply and demand imbalances related to the pandemic and the reopening of the economy have continued to contribute to elevated levels of inflation.”

At the same time, the Fed stated:

“With inflation well above 2 percent and a strong labor market, the Committee expects it will soon be appropriate to raise the target range for the federal funds rate. The Committee decided to continue to reduce the monthly pace of its net asset purchases, bringing them to an end in early March. Beginning in February, the Committee will increase its holdings of Treasury securities by at least $20 billion per month and of agency mortgage‑backed securities by at least $10 billion per month. The Federal Reserve’s ongoing purchases and holdings of securities will continue to foster smooth market functioning and accommodative financial conditions, thereby supporting the flow of credit to households and businesses.”

The Fed also released a document titled “Principles for Reducing the Size of the Federal Reserve’s Balance Sheet,” which provides some basic guidelines for how the Fed’s balance sheet might be reined in … at some point in the future.

Another document – “Statement on Longer-Run Goals and Monetary Policy Strategy” – simply laid out the basics of monetary policy. In each case, there was nothing revelatory.

So, is the Fed worried about inflation or not? What actually lies ahead? It’s all about as clear as mud.

But the Fed did say, “In assessing the appropriate stance of monetary policy, the Committee will continue to monitor the implications of incoming information for the economic outlook.”

Oh, well, there you go. Clear now?

Meanwhile, of course, inflation (as measured by the Consumer Price Index) ran at a red-hot 7 percent over the past year, including running at about an annualized rate of 8.8 percent over the past quarter.

By the way, it’s worth taking a look at history to understand that the moves the Fed is pondering hardly amount to a true tightening of monetary policy, as exhibited by the two following charts – one tracking the monetary base (currency and bank reserves) and the other the federal funds rate.

Source: Federal Reserve Bank of St. Louis, FRED

Source: Federal Reserve Bank of St. Louis, FRED

I completely understand that these are unique times, and trying to work out how much of inflation is still attributable to supply-chain issues, and how much runs deeper and is fueled by loose money is a difficult puzzle to solve.

Still, the Fed should be clear and unequivocal that inflation is a significant concern, and monetary policy will be focused on maintaining price stability. In turn, of course, sound money, rather than undercutting growth as many assume, would serve as part of a foundation for economic recovery and growth.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council.


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