Jerome Powell’s pivotal moment in monetary policy history

Jerome Powell, the chair of the US Federal Reserve, has just presided over a “pivotal moment” in monetary-policy history, says John Authers on Bloomberg. Last week, Powell announced that the central bank’s inflation target of 2% will now be a long-term average, rather than the rate that the Fed is aiming to hit at all times. And it will no longer tighten policy when employment is above what economists thinks is the maximum level the economy can take without overheating, unless it sees other signs of inflationary pressures.

For now, the idea that the Fed “will let inflation go a bit above 2% if necessary sounds like wishful thinking”. In this deflationary environment, conventional monetary policy is proving useless and “there was no detail on how the Fed will get inflation above 2% and keep it there”. Yet for all that, it feels as if Powell is ending “four decades of orthodoxy since Paul Volcker took over the Fed and showed he was prepared to raise rates even if it crushed employment”. 

A missed chance to be radical

Not so fast, says The Economist. It’s true that these changes may be “the most consequential adjustment to the conduct of monetary policy since the early 1980s”, but for now they look “disappointingly incremental” rather than “transformative”. The Fed has restored jobs as an equal priority alongside prices, but it has “stopped short of committing itself to a more aggressively reflationary framework” that would allow inflation to rise more “in pursuit of full employment”. With interest rates already at zero, Powell’s new strategy could amount to “little more than a promise not to counteract any government efforts to boost growth using fiscal stimulus”. Given “the bleak outlook for the American economy” and the “low risk of embracing a more radical overhaul”, this “feels like an opportunity missed”.

Legacy of instability

The central bank wasn’t going to raise rates in the middle of a global recession, so the immediate impact is modest, agrees Swaha Pattanaik on Breakingviews. But “the new framework will outlast the pandemic”. Crucially, “other central banks will follow where the Fed leads” – and the way that this is leading is “ultra-easy policy more of the time”.

For three decades, monetary policymakers have treated stable price inflation as “their best contribution to economic prosperity”. Yet during that time, expansions have been more likely to end in “episodes of financial instability rather than runaway inflation”, as Powell himself acknowledged in his speech. This will turn out be the “Achilles heel” of the Fed’s new approach. “Protracted periods of extremely low interest rates and easy money imply more financial-market booms and busts.”