If the Fed Can’t Hit Its Inflation Target, Why Not Just Move the Goalposts?

The Fed has an inflation problem.

The CPI is running well above the mythical 2% target and there isn’t any sign that it will ease soon. To deal with this problem, the central bank should tighten its monetary policy. But that would create a whole new problem, given that it can’t tighten in this economic environment. So, what is a central banker to do?

Well, if the Fed can’t hit the target, how about just moving the target?

That idea is apparently seriously being considered.

In a Wall Street Journal article, Greg Ip floated the idea.

One strategy [Powell]—or his successor—should consider in that eventuality is to simply raise the target.”

Ip buys into Keynesian economic voodoo and thinks straitjacketing the Fed with a 2% inflation target will hinder job creation.

Why would higher inflation ever be a good thing? Economic theory says modestly higher, stable inflation should mean fewer and less severe recessions, and less need for exotic tools such as central-bank bond buying, which may inflate asset bubbles. More practically, if inflation ends up closer to 3% than 2% next year, raising the target would relieve the Fed of jacking up interest rates to get inflation down, destroying jobs in the process.”

In a sense, the Fed has already raised the inflation target. Not so long ago, it was a hard 2% target. But the COVID-19 pandemic gave the Fed just the excuse it needed to move the inflation goalposts.

Jerome Powell announced the shift to “average inflation targeting” during his Jackson Hole speech in August 2020. In effect, the Fed will allow the CPI to run “moderately” over 2% “for some time” to balance out periods where it runs under that level.

“Many find it counterintuitive that the Fed would want to push up inflation. However, inflation that is persistently too low can pose serious risks to the economy,” Powell said during prepared remarks at the summit.

Of course, when you define inflation correctly – as an expansion of the money supply – it is anything but “too low.” In fact, it is at the highest level in history.  But based on the CPI number, inflation ran well below 2% for many years. That means that the Fed can now hold interest rates at zero for a significant amount of time even with CPI running above 2%.

In a nutshell, the Fed effectively raised its inflation target, but we don’t actually know what that target is.

Nevertheless, 2% still looms in the background. Today, it’s hard to argue inflation is “moderately” above 2%. That’s why we’re seeing this push for a higher target. Perhaps the Fed can make do without fighting inflation if we just say the target is going to “average” around 3%.

Or heck, why not 4%?

Mises Institute senior editor Ryan McMaken summed it up this way.

Rather than feel the pressure to taper just because price inflation has risen above the 2% target, Ip wants to make sure the Fed can just keep on with the stimulus until price inflation exceeds 3%, or maybe even 4%. And who knows? After that, maybe “economic theory” will tell us that 5% inflation is an even better target. Certainly, that would be no less arbitrary a number than 4% or 2%.”

As McMaken noted, this has little to nothing to do with economics. It’s all political.

Presumably, the longer inflation persists above the target rate, the more the Fed will feel pressure to bring inflation back down through some sort of tapering. After all, the adoption of a 2 percent target implies 2 percent is the “correct” inflation rate. Anything higher than that is presumably “too much.” With the Fed moving toward the 2 percent target since the 1996 —and having formally adopted it in 2012—the Fed’s credibility is on the line if the Fed simply ignores the target.”

“But it’s a safe bet that if the accepted inflation target were increased to 4 percent, we’d be hearing little to nothing right now about tapering, normalization, or any other effort to cut price inflation. The Fed would then be more free to keep the easy money spigot open longer without having to hear complaints that the Fed has “lost control” of price inflation. That would be great for stock prices and real estate prices. Ordinary people, on the other hand, might fare less well.”

It’s important to pause and consider what Ip is proposing. He wants the central bank to destroy the purchasing power of your money even faster than it is now – as a matter of policy. Even now, as personal incomes rise, inflation is eating them up.

Higher inflation means prices rise even faster. These wonks never seem to stop and think about the fact that when they talk about higher inflation, they mean you and I pay more for gas, housing, food, entertainment – everything!

But don’t worry citizen – this is good for you!

No. It’s not.

It’s good for the connected people who get their hands on this new money first. It’s not good for the consumer, whose pay always goes up slower than inflation. It’s certainly not good for the savers, or the people on fixed incomes. And you know who really gets shafted? The poor and the elderly.

This is typical government. It beats you up and wants you to thank it for its service. As Harry Brown put it, “The government is good at one thing. It knows how to break your legs, and then hand you a crutch and say, ‘See if it weren’t for the government, you wouldn’t be able to walk.”