Reconfiguring the Fed’s Forward Guidance

The Federal Open Market Committee has an explicit, two percent U.S. inflation target. That announcement, made in January 2012, recognizes the scientific genius of three Nobel Prize-winning economists. It promises that the monetary policy mistakes of the 1970s will never be repeated, and offers reassurances that Federal Reserve policymakers fully deserve the American people’s trust and respect.

More recently, the FOMC has also referred consistently to unemployment in its policy statements, intended to offer “forward guidance” to the public about the future path of its federal funds rate target. These statements not only make clear that Federal Reserve policymakers are basing their decisions partly on the behavior of unemployment but, more worrisome, suggest that they are doing so with a specific, 6 1/2 percent target for the unemployment rate in mind.

Although these FOMC statements are carefully worded in ways that make it impossible to rule out that they remain consistent with a broader strategy of “flexible” inflation targeting, they nevertheless raise two sets of concerns.