Fed Chairman Jerome Powell outlines historic changes to monetary policy strategy

The Federal Reserve announced a major policy shift Thursday, saying that it is willing to allow inflation to run hotter than normal in order to support the labor market and the broader economy. Fed Chairman Jerome Powell outlines the historic changes. For access to live and exclusive video from CNBC subscribe to CNBC PRO: https://cnb.cx/2NGeIvi

The Federal Reserve announced a major policy shift Thursday, saying that it is willing to allow inflation to run hotter than normal in order to support the labor market and broader economy.

In a move that Chairman Jerome Powell called a “robust updating” of Fed policy, the central bank formally agreed to a policy of “average inflation targeting.” That means it will allow inflation to run “moderately” above the Fed’s 2% goal “for some time” following periods when it has run below that objective.

The changes were codified in a policy blueprint called the “Statement on Longer-Run Goals and Monetary Policy Strategy,” first adopted in 2012, that has informed the Fed’s approach to interest rates and general economic growth.

As a practical matter, the move means the Fed will be less inclined to hike interest rates when the unemployment rate falls, so long as inflation does not creep up as well. Central bank officials traditionally have believed that low unemployment leads to dangerously higher levels of inflation, and they’ve moved preemptively to head it off.

However, a speech Powell delivered to a virtual gathering of the Fed’s annual Jackson Hole, Wyoming, symposium, and accompanying documents that codified the new policy, signaled a shift away from the old thinking. The policymaking Federal Open Market Commitee approved the changes unanimously.

“Many find it counterintuitive that the Fed would want to push up inflation,” Powell said in prepared remarks. “However, inflation that is persistently too low can pose serious risks to the economy.”

The chairman’s speech began two minutes before the scheduled 9:10 a.m. ET embargoed release that financial markets had been expecting. His remarks did not initially draw a strong reaction, but stock market futures later moved higher and major averages rose in morning trade.

Powell noted that the interest rate level that neither constrains nor pushes growth has fallen considerably over the years and is likely to stay there.

He contrasted the current situation to what the Fed faced 40 years ago, when then-Chairman Paul Volcker ushered through a controversial series of rate hikes that sought to tamp down inflation. Over the years, fundamental changes in the economy, such as demographics and technology, have shifted the Fed’s focus to inflation that has run too low.

The situation, Powell said, “can lead to an unwelcome fall in longer-term inflation expectations, which, in turn, can pull actual inflation even lower, resulting in an adverse cycle of ever-lower inflation and inflation expectations.” Policymakers, consequently, are left with little room to lower rates during times of economic stress.

Since the end of the financial crisis, the Fed has struggled to hit its 2% inflation target. Officials hope that the new approach will change the landscape, raising expectations and allowing inflation to float higher as rates remain low.

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