Fed officials began the year expressing confidence that inflation was finally rebounding as the economy continued to expand. But the Fed’s preferred measure of inflation declined in the last three monthly reports, from an annualized pace of 2.1 percent in February to 1.4 percent in May. The inflation gauge is published by the Commerce Department.
Job growth remains strong, but recent reports on cautious consumer spending and business investment suggest that overall growth remains tepid. A turn toward stronger growth again has fail to materialize. The Federal Reserve Bank of Atlanta, which predicted that the economy would expand at an annualized pace of 4 percent in the second quarter, now estimates that second-quarter growth was 2.5 percent.
The persistent sluggishness has persuaded some Fed officials to revise their thinking.
“Low inflation has been the major surprise of the era,”James Bullard, president of the Federal Reserve Bank of St. Louis, declared last April. He said he did not support any increase in the Fed’s benchmark rate until 2018, to give inflation time to recover.
Last month, Mr. Bullard said he was still waiting for inflation to return to 2 percent.
Most Fed officials, however, continue to predict that inflation is around the corner.
One theory, popular among conservative economists, is that the Fed causes inflation by increasing the supply of money faster than the pace of economic growth. Kevin A. Hassett. President Trump’s nominee to lead his Council of Economic Advisers, was among the signatories of a 2010 open letter warning that Fed’s plan to pump money into the banking system “risk currency debasement and inflation.” Seven years later, there is no evidence they were correct, although some of them continue to issue similar warnings.
Another theory, more popular among liberal economists like Ms. Yellen, holds that prices rise as unemployment falls. Companies compete for worker by raising wages, workers want to spend the money and businesses respond to the demand for their products by raising prices.
Ms. Yellen has attributed the recent weakness to declines in the prices of particular goods, like cellphone-service plans and prescription drugs, that are not likely to continue. She and other officials also have noted that the weakness of the global economy allowed the United States to import foreign goods at low prices.
This theory, too, is increasingly difficult to reconcile with recent evidence.
The unemployment rate, at 4.4 percent in June, was below the level that Fed officials regard as inflationary for the fourth straight month. Meanwhile, inflation weakened.
So where does that leave us? Once again, as it was in the days of high inflation, public expectations might be determining the level of inflation, some economists think. The Fed’s repeated failure to achieve its stated goals may be training people to expect lower inflation, making it harder for the Fed to achieve those goals.
“The public makes inferences regarding the inflation target based on our past performance, not just on our words,” Charles Evans, the president of the Federal Reserve Bank of Chicago, said in a June speech in New York. “When they see inflation below 2 percent for eight-plus years, they might logically think 2 percent is a ceiling.”
Another countervailing view emphasizes the importance of real economic conditions. Low inflation has become the standard condition across the developed world, and some economists see the rise of the developing world as the most likely explanation. The threat of outsourcing helps to hold down wages, while the flood of cheap goods from foreign countries helps to hold down prices.
Adam Posen, the president of the Peterson Institute for International Economics, says the bottom line is that the last few years have raised doubt about all of the standard explanations.
“It's reached the point where the only decision is how freaked out you want to be by how much this contradicts previous knowledge or previous theory,” Mr. Posen said.
Job growth remains strong, but recent reports on cautious consumer spending and business investment suggest that overall growth remains tepid. A turn toward stronger growth again has fail to materialize. The Federal Reserve Bank of Atlanta, which predicted that the economy would expand at an annualized pace of 4 percent in the second quarter, now estimates that second-quarter growth was 2.5 percent.
The persistent sluggishness has persuaded some Fed officials to revise their thinking.
“Low inflation has been the major surprise of the era,”James Bullard, president of the Federal Reserve Bank of St. Louis, declared last April. He said he did not support any increase in the Fed’s benchmark rate until 2018, to give inflation time to recover.
Last month, Mr. Bullard said he was still waiting for inflation to return to 2 percent.
Most Fed officials, however, continue to predict that inflation is around the corner.
One theory, popular among conservative economists, is that the Fed causes inflation by increasing the supply of money faster than the pace of economic growth. Kevin A. Hassett. President Trump’s nominee to lead his Council of Economic Advisers, was among the signatories of a 2010 open letter warning that Fed’s plan to pump money into the banking system “risk currency debasement and inflation.” Seven years later, there is no evidence they were correct, although some of them continue to issue similar warnings.
Another theory, more popular among liberal economists like Ms. Yellen, holds that prices rise as unemployment falls. Companies compete for worker by raising wages, workers want to spend the money and businesses respond to the demand for their products by raising prices.
Ms. Yellen has attributed the recent weakness to declines in the prices of particular goods, like cellphone-service plans and prescription drugs, that are not likely to continue. She and other officials also have noted that the weakness of the global economy allowed the United States to import foreign goods at low prices.
This theory, too, is increasingly difficult to reconcile with recent evidence.
The unemployment rate, at 4.4 percent in June, was below the level that Fed officials regard as inflationary for the fourth straight month. Meanwhile, inflation weakened.
So where does that leave us? Once again, as it was in the days of high inflation, public expectations might be determining the level of inflation, some economists think. The Fed’s repeated failure to achieve its stated goals may be training people to expect lower inflation, making it harder for the Fed to achieve those goals.
“The public makes inferences regarding the inflation target based on our past performance, not just on our words,” Charles Evans, the president of the Federal Reserve Bank of Chicago, said in a June speech in New York. “When they see inflation below 2 percent for eight-plus years, they might logically think 2 percent is a ceiling.”
Another countervailing view emphasizes the importance of real economic conditions. Low inflation has become the standard condition across the developed world, and some economists see the rise of the developing world as the most likely explanation. The threat of outsourcing helps to hold down wages, while the flood of cheap goods from foreign countries helps to hold down prices.
Adam Posen, the president of the Peterson Institute for International Economics, says the bottom line is that the last few years have raised doubt about all of the standard explanations.
“It's reached the point where the only decision is how freaked out you want to be by how much this contradicts previous knowledge or previous theory,” Mr. Posen said.
