The Fed Gambles on Inflation

October 5, 2020

Over the past couple of decades, the Federal Reserve has coalesced around an idea about inflation that is little more than theoretical, with no real data to back it up. That “idea” is that 2% inflation is the “correct” amount of inflation.

The target is not just a one-year target, it is seemingly a permanent, long-term target. We find this idea very problematic. For example, the Fed’s favorite measure of inflation, the PCE deflator, has averaged 1.5% over the past decade. But the Fed now says it could let inflation in the future run high so that the long-run average rises to 2%. No one knows exactly what this means, but one interpretation is that the Fed is willing to have inflation run at 2.5% for the next ten years so that the 20-year average is 2%…

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