The Federal Reserve is bent on inflation heading higher. That doesn’t mean it can do much about it.
The Fed’s policy-setting committee on Wednesday concluded their final meeting of the year by leaving its target range on overnight rates unchanged, with projections showing that the bulk of Fed officials expect to stay on hold through the end of next year.
Given that this year’s three rate cuts were meant to buffer the economy against uncertainties in trade and growth, and given those uncertainties are expected to abate next year, the Fed’s low-rate stance might strike some investors as curious. But over the past year the central bank has become increasingly concerned about how low inflation has been, even as the unemployment rate has slipped to a 50-year low. The prospect of the U.S. entering the low-rate, low-inflation low-growth trap that has enmeshed Europe and Japan is something that it wants to avoid.
Earlier Wednesday, the Labor Department reported consumer prices excluding food and energy—the so-called core used to measure inflation’s underlying trend—was up 2.1% in November from a year earlier. That suggests the core reading for the Fed’s preferred inflation measure, from the Commerce Department, was likely up just 1.6%, calculate JPMorgan Chase economists.
It seems likely that inflation will perk up somewhat in the year ahead, with many economists forecasting that the Fed’s preferred core measure will flirt with the 2% target the Fed has set for overall inflation. But the Fed is worried that people’s inflation expectations, which help set the course of future inflation, have been ground down to the point that keeping inflation around 2% will be very hard. So now it is countenancing letting inflation exceed 2% in an attempt to reanchor expectations higher.
But wanting to let inflation go above 2% and inflation actually getting there are separate things. The Fed’s commitment to keeping rates low will certainly be supportive for the economy, but its ability to push growth higher is limited — especially when, with its target range on interest rates now at just 1.5% to 1.75%, there is so little room to cut further. The Fed can wish for higher inflation but wishing won’t make it so.
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