Friday , January 28 2022
Home / S. Sumner: Money Illusion / A disappointing Fed inflation forecast

A disappointing Fed inflation forecast

Summary:
Forecasts are generally judged on the basis of their accuracy. But when it comes to Fed forecasts of inflation, another criterion is appropriate; is the forecast consistent with the Fed’s announced policy goal?The Fed’s new long run forecasts for PCE inflation have been raised significantly since the previous set of forecasts, three months earlier. That’s not how a sound central bank operates. You don’t raise the inflation forecast, you adjust policy so that the average inflation rate over the 2020s remains at 2%. Here’s the data (and change from previous forecast):2020: 1.3% 2021: 5.3% (+1.1%) 2022: 2.6% (+0.4%) 2023 2.2% (+0.1%) 2024: 2.1% (unch.) 2025-29: 2.0% (unch.) So the Fed has raised its average inflation forecast for the 2020

Topics:
Scott Sumner considers the following as important:

This could be interesting, too:

Scott Sumner writes A disappointing Powell press conference

Scott Sumner writes What does it mean to say that something is inflationary? (part 2)

Scott Sumner writes What does it mean to say that something is inflationary?

Tyler Cowen writes *Labor Econ Versus the World*

Forecasts are generally judged on the basis of their accuracy. But when it comes to Fed forecasts of inflation, another criterion is appropriate; is the forecast consistent with the Fed’s announced policy goal?

The Fed’s new long run forecasts for PCE inflation have been raised significantly since the previous set of forecasts, three months earlier. That’s not how a sound central bank operates. You don’t raise the inflation forecast, you adjust policy so that the average inflation rate over the 2020s remains at 2%. Here’s the data (and change from previous forecast):

2020: 1.3%

2021: 5.3% (+1.1%)

2022: 2.6% (+0.4%)

2023 2.2% (+0.1%)

2024: 2.1% (unch.)

2025-29: 2.0% (unch.)

So the Fed has raised its average inflation forecast for the 2020 from 2.2% to 2.36%. Why?

Yes, the Fed has a dual mandate, and thus a bit of leeway to adjust inflation. But nothing in the labor market has changed over the past three months that would justify a higher average inflation rate for the 2020s. Even worse, I suspect that inflation will end up being even higher than the Fed is currently forecasting. This is a very disappointing forecast.

Even if inflation comes in right at 2.36% for the 2020s, that outcome will not be consistent with the Fed’s announced 2% FAIT regime. If you are going to set a target, then why not try to hit the target? Why forecast failure?

PS. A few months ago the Fed thought 2.2% met the dual mandate. In that case, I wish that today the Fed had adopted a policy predicted to lead to PCE inflation of:

2020: 1.3%

2021: 5.3% (+1.1%)

2022: 2.4% (+0.2%)

2023 2.0% (-0.1%)

2024: 1.9% (-0.2%)

2025-29: 1.8% (-0.2%)

That would have left their inflation forecast for the 2020s unchanged at 2.2%, despite the recent surge in prices.

Yes, 2.36% is not a disaster; we’ve seen worse (the 1960s, 1970s, 1980s, 2010s, etc.) But why settle for anything short of optimal?

PS. Yes, inflation is a bad indicator. But NGDP growth in 2022 is also likely to be excessive.


Tags:

 
 
 
Scott Sumner
Scott B. Sumner is Research Fellow at the Independent Institute, the Director of the Program on Monetary Policy at the Mercatus Center at George Mason University and an economist who teaches at Bentley University in Waltham, Massachusetts. His economics blog, The Money Illusion, popularized the idea of nominal GDP targeting, which says that the Fed should target nominal GDP—i.e., real GDP growth plus the rate of inflation—to better "induce the correct level of business investment".

Leave a Reply

Your email address will not be published. Required fields are marked *