It has taken a while, just under two years since Ben Bernanke took over from Alan Greenspan as Chairman of the Fed, but the deed now is done: the Fed has moved to de-facto inflation targeting. It will continue to be an inflation targeting that dare not speak its name. The Fed has introduced inflation targeting inside the twin Trojan horses of improved communications and greater transparency. An indeed, these proposals are likely to improve the clarity of the Fed’s communications to the market and the public at large and to enhance its transparency. But there is more that that involved. I discern a movement away from the Fed’s symmetric dual mandate to a greater emphasis on price stability as the primary objective of monetary policy. This reform will not take the Fed the whole way towards the lexicographic or hierarchical inflation targeting of the ECB and the Bank of England, whose primary objectives are price stability and without prejudice to, or subject to, the price stability target being met, output, employment and all things bright and beautiful. It does, however, represent a significant step in that direction.The Fed will now provide projections for inflation for three years (actually a range of the forecasts of the individual board members and reserve bank members). Herein lies the target, according to Buiter:
The longer horizon matters, because, even allowing for long, variable and uncertain lags in the effects of monetary policy, over a three year horizon a monetary authority like the Fed should expect to hit its inflation target, if it has one. Second, the Fed forecasts are made on the assumption of ‘appropriate monetary policy’, that is, not on the basis of a constant Federal Funds target rate or on the assumption that the future path of the Federal Funds target rate is that implied by the market yield curve. This reinforces the presumption that at a three year horizon, if not earlier, the forecast for inflation should equal the inflation target.
The first fruits of the new transparency accompanied the minutes of the October FOMC meeting, which were released yesterday. Inflation projections for 2010 - the implicit inflation target in Buiter's reasoning - ranged from 1.5% - 2% (the projections were for "PCE Inflation" - the price deflator for personal consumption expenditures, which tends to be a smidge lower than the Consumer Price Index).
At Econbrowser, James Hamilton assessed the projections. He was surprised by the low growth projections:
I was particularly struck by the 3-year projections. GDP growth is a time series with relatively rapid mean reversion, so that one would need a lot of evidence (or courage) before offering a 3-year-ahead forecast that is anything other than the historical average. That historical average is 3.3% if you go all the way back to 1948. Yet even the most optimistic FOMC participant was expecting no more than 2.7% real GDP growth for 2010.The inflation projections were also on the low side:
The Fed's 3-year-ahead inflation forecast also surprises me a little, in that the highest inflation rate that any member anticipates for 2010 is only 2.0%. Inflation is a time series with far less mean reversion than GDP growth, so it's probably unreasonable to use the long-run historical average inflation rate (3.3%) as your forecast for 2010. But for the FOMC participants unanimously to expect the inflation rate in 2010 to be below its average value of the last five years, and for that matter likely below even its value for 2006, should raise an eyebrow.For more, here's the NY Times story.
Ok, I'm dating myself with the joke in the title. For those unfamiliar with the 1980's: Mikhail Gorbachev tried to reform the Soviet Union with more openness ("glasnost") and restructuring ("perestroika").