Powell Announced Dovish Shift to Fed’s Monetary Policy, Targeting Averaging Inflation and shortfall of Maximum Employment

At the annual Jackson Hole Symposium, Fed Chair Powell briefed the market on the results of the Fed’s strategic review of its monetary policy strategy. Powell announced the new approach to deal with price stability and maximum employment, the dual mandate of the Fed monetary policy. The Fed will move to average inflation targeting, seeking to achieve “inflation that averages 2% over time”. As Powell noted, “following periods when inflation has been running below 2%, appropriate monetary policy will likely aim to achieve inflation moderately above 2% for some time”. The Fed did not indicate what level of above-2% inflation is tolerable, however.

On the employment situation, Powell suggested that the goal is to “mitigate shortfalls” of maximum employment, rather than “deviations” of employment from its goal. This change signals that policymakers will be more concerned about employment which is below maximum than above its full-employment mandate. An unemployment rate below the estimated natural rate of unemployment should be a sufficient reason for the Fed to tighten its monetary policy. The accompanying strategy statement described the maximum level of employment as a “broadbased and inclusive goal”, suggesting that it is not a target that would trigger policy change.

The above changes signal dovish shifts to Fed’s monetary policy stance. The members “explicitly acknowledge the challenges for monetary policy posed by a persistently low interest rate environment”. The US, as well as the rest of the world, policy rates are “more likely to be constrained by their effective lower-bound than in the past”. At the strategy statement, there were no discussions revealed over changes on the asset purchase program and yield curve cap (or control), we are somehow disappointed as the members have not added these into their alternative policy tools. We expect the Fed will formally adopt a new forward guidance, reflecting the new approaches on inflation and employment at the September meeting.