Bostic: Markets may doubt Fed's inflation commitment

FILE PHOTO: President and Chief Executive Officer of the Federal Reserve Bank of Atlanta Raphael W. Bostic speaks at a European Financial Forum event in Dublin, Ireland February 13, 2019. REUTERS/Clodagh Kilcoyne

MARCH 1, 2019

WASHINGTON (Reuters) - Markets may be losing faith about the Fed’s commitment to meeting its 2 percent inflation target, given years of operating below that threshold, Atlanta Federal Reserve bank president Raphael Bostic said on Friday.

“I am worried that the market may not take us seriously that the 2 percent target has symmetry to it,” meaning that the Fed would be as willing to allow inflation to run above target as to stay below it, Bostic said at a conference of the National Association of Business Economics.

“We have been below 2 percent for quite a while. There are some who are thinking it is because the markets don’t believe that if we ever go to two percent that we would let it go over, so that 2 percent effectively becomes a ceiling.”

The Fed is in the early stages of reviewing how it talks about and manages its inflation goal in particular.

 

Price dynamics are considered to be heavily influenced by public psychology and expectations, making it important that investors and households believe that if policymakers promise to hit a target, they will do so. Otherwise investment and spending decisions will be made as if inflation will always lag, a battle of perceptions that has arguably left Japan stuck with low inflation despite massive efforts to lift it.

The Fed set an explicit inflation target of 2 percent in 2012, and since then has routinely missed it — sometimes narrowly, but all the same on such a consistent basis that Bostic and others are worried it is eroding the Fed’s credibility.

Maintaining credibility is one reason the Fed launched a broad “framework” review to see if there are ways to set an inflation goal that might be more effectively and consistently achieved — such as expressing 2 percent inflation as an average to be met over time, not as a single “target.”

The discussion will likely take months or more to complete and any changes even longer, given the political and other sensitive issues involved, including what would likely be an extensive public education campaign.

In a separate discussion, the Fed’s former head of financial stability Nellie Liang said any changes to the inflation framework would have to account for the possible financial sector risks of using lower-than-expected interest rates to move inflation higher.

“It will raise questions about if it is going to lead to higher asset valuations or a less resilient financial system,” said Liang, who recently withdrew as a nominee to be on the Fed’s Board of Governors. “There will need to be a discussion of, are there other tools?” to address those issues.

Reporting by Howard Schneider; Editing by Chizu Nomiyama