As expected, the Federal Open Market Committee (FOMC) announced no changes to its administered rates following its April meeting, and Federal Reserve Chair Jerome Powell did not provide new information about the Fed’s bond-buying programs. The FOMC reaffirmed it wants to observe substantial progress toward its dual mandate on employment and price stability, including assurances that the worst of the pandemic is behind us, before scaling back accommodation.
While this wasn’t a new message from Powell, it’s nonetheless notable that the Fed is so focused on backward-looking data instead of forward-looking projections, since the outlook has improved so substantially and monetary policy works with long and variable lags. However, we think this new focus is a necessary condition for the Fed’s ultimate success, primarily due to the importance of anchoring long-term inflation expectations.
The end of ‘copacetic coincidence’
Since the formal introduction of the Fed’s 2% inflation target in 2012, median FOMC estimates of the neutral real interest rate (r*) have declined substantially from 2.25% in January 2012 to 0.5% today. The implications of this decline are profound: The FOMC now has less room to accommodate adverse economic shocks by cutting its benchmark interest rate. And this, in turn,
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