MNI POLICY: Clarida: Fed Shift Avoids Entrenched Low Inflation

Fed Vice Chair Richard Clarida said in a speech Monday that low unemployment is no longer enough to trigger policy action because the era of near-zero interest rates risk embedding weak inflation expectations.

"To be clear, 'inflation that averages 2 percent over time' represents an ex ante aspiration, not a description of a mechanical reaction function—nor is it a commitment to conduct monetary policy tethered to any particular formula or rule," the Vice Chair said in prepared remarks.

The shift in the Fed's long-term goal of targeting "shortfalls" from full employment rather than "deviations" is meant to convey this new thinking, Clarida said. Tightening monetary policy "based solely on a model without any other evidence of excessive cost-push pressure that puts the price-stability mandate at risk is difficult to justify," he said in remarks to the Peterson Institute for International Economics in Washington.

The FOMC will assess refinements to the SEP with the aim of reaching a decision on any potential changes by the end of this year, Clarida said. But there was little else offered in terms of its tools to sustainably achieve rising inflation.

No Negative Rates

"We believe that forward guidance and large-scale asset purchases have been and continue to be effective sources of support to the economy when the federal funds rate is at" the effective lower bound, he said.

Clarida further dismissed negative interest rates in the U.S. and said yield curve control brings complications in terms of implementation and communications. The tool "may be modest" in terms of benefits but remains an option that the Fed could reassess in the future if circumstances changed markedly, he said.

"The statement now highlights that the Committee is prepared to use its full range of tools to achieve its dual-mandate objectives," he said. "We think of this new strategy as an evolution from flexible inflation targeting to flexible average inflation targeting."