A patient policy, where the Federal Reserve waits for outcomes rather than acting solely on forecasts, will be most effective in reaching the central bank’s goals of maximum employment and stable 2% average inflation, said Fed Governor Lael Brainard on Tuesday.
Last summer, the Fed approved a major shift in policy, saying it was ending its practice of preemptively raising its policy interest rate when data forecast that inflation might rise.
Now the Fed will look mainly at “shortfalls” of employment rather than deviations from its maximum level.
“The emphasis on outcomes rather than the outlook corresponds to the shift in our monetary policy approach that suggests policy should be patient rather than preemptive at this stage of the recovery,” Brainard said in her remarks to the National Association for Business Economics.
Current employment and inflation outcomes “remain far from our goals,” she noted.
Brainard said the outlook for the economy has brightened considerably but added “the fog of uncertainty associated with the virus has yet to lift completely.”
One unknown is how much pent-up consumption will be unleashed when social distancing guidelines are completely lifted. Another is that the speed of improvement in the labor market following the initial rush of businesses reopening is also not clear, she added.
And after the reopenings, underlying low inflation trends are also likely to return, she added.
“The FOMC has communicated its reaction function under the new framework and is providing powerful forward guidance that is conditioned on employment and inflation outcomes. This approach implies resolute patience while the gap closes between current conditions” and the Fed’s goals, she said.
Many economists, including former Treasury Secretary Larry Summers believe that the Fed will not tighten policy until it is too late and the economy might overheat.