US policymakers have been accused of downplaying the significant rise in consumer prices in 2021. Don Kohn, a senior fellow at the Brookings Institution and former vice chair of the Federal Reserve, suggests that a rule change made a year earlier may have hindered the central bank’s ability to raise interest rates more quickly.
The spike in consumer prices has been a cause for concern in recent months, with inflation reaching its highest levels in over a decade. However, according to Kohn, US policymakers did not adequately address the issue and failed to take the necessary steps to control inflation.
In a recent episode of the Exchange podcast, Kohn highlighted a rule change made by the Federal Reserve in 2020 as a key factor contributing to the central bank’s slow response to rising prices. The rule change, known as the “average inflation targeting,” shifted the Fed’s focus from targeting a specific inflation rate to targeting an average inflation rate over a period of time.
Kohn argues that this change in policy created a sense of complacency among policymakers, leading them to underestimate the severity of inflationary pressures. He suggests that if the rule change had not been implemented, the Federal Reserve would have been more inclined to raise interest rates sooner in order to curb rising prices.
The Federal Reserve plays a crucial role in controlling inflation and ensuring the stability of the US economy. By adjusting interest rates, the central bank can influence borrowing costs, spending, and investment. Higher interest rates typically result in reduced borrowing and spending, which can help to cool down an overheating economy and control inflation.
The recent surge in consumer prices has raised concerns about the impact on everyday households. Rising prices can erode purchasing power and make it more difficult for individuals and families to afford basic goods and services. It is therefore important for policymakers to address inflation effectively to mitigate its impact on the general public.
The debate over the Federal Reserve’s response to inflation comes at a time when central banks around the world are grappling with similar challenges. The Covid-19 pandemic and subsequent economic recovery have created a unique set of circumstances, with supply chain disruptions and pent-up demand contributing to rising prices.
In the United Kingdom, the Bank of England is also facing the dilemma of how to manage inflation. The country has experienced similar price increases, particularly in areas such as energy and food. The Bank of England has hinted at the possibility of raising interest rates in the near future to combat inflationary pressures.
As the debate continues, it is important for policymakers to strike a balance between supporting economic growth and addressing inflation. The challenge lies in determining the appropriate timing and magnitude of interest rate adjustments to achieve these objectives.
The views expressed by Don Kohn shed light on the complexities of monetary policy and the need for careful consideration of the rules governing central banks. The Federal Reserve’s rule change in 2020 may have inadvertently contributed to the current inflationary environment. Moving forward, policymakers must learn from this experience and adapt their strategies to effectively manage inflation and maintain a stable economy.
More detail via Reuters here… ( Image via Reuters )