https://www.econlib.org/richard-clarida-on-what-went-wrong/
“Jeff” in a comment on Scott Sumner’s take on Clarida makes the following criticism of the Fed’s Flexible Average Inflation Target (FAIT).
“Let’s not forget that the meaning of “FAIT” was extremely unclear to you [Scott Sumner], your readers, and even some of the Fed’s own researchers through the better part of 2021. Both the plain English and technical meanings of the word “average” imply that both undershoots and overshoots will be compensated for. Anything else is not properly described as an “average”. Monetary policymakers do not have license to redefine mathematics any more than energy policymakers get to redefine the fundamental constants of the physical universe. No doubt many professional Fed-watchers saw through the murky verbiage and were able to personally benefit as a result, but I’m not exactly a fan of societies where only courtiers and palace whisperers know what is really going on because the royals speak a different language from everyone else.”
Sumner approves, but I do not. “Jeff” seems to be taking the Fed literally, not seriously.
“Average” seems pretty clear to me. The Fed thinks a rate of 2% PCE, given average/normal/regular/expected size and frequency of shocks, maximizes real income growth. Of course from month-to-month the rate might be higher or lower, but it would be 2% on “average.” [Perhaps “expected value: would be more technically correct, but the Fed is comminating with ordinally (could I say “average”) human beings, not the nerd commentariat.]
Why would the Fed ever intentionally shoot for less than its target in order to achieve a backward-looking arithmetic “average?” Both positive shocks and negative shocks whether demand or supply require changes in relative prices and the target rate of inflation has, ex hypothesi, been chosen to maximally facilitate relative price changes/real income.
“Flexible” is also clear enough. Sometimes there will be out-of-the-ordinary shocks and to facilitate adjustment to that kind of shock, the Fed would “flexibly” engineer/allow temporarily greater than target inflation. This looks like what the Fed did with the COVID recovery/supply chain shocks and to lesser extent with the spike in oil/grain prices internationally in early 2021. Unfortunately, it miscalculated (perhaps because it was not paying sufficient attention to TIPS inflation expectations, which in Sept 2021 rose significantly above target) and delayed increasing interest rates from Sept 20121 to March 2022. A spate of over-target inflation ensued.
I also wonder if another element in the error was the Fed’s having unwisely speculated about its future policy instrument settings by saying that it would first cut back on QE purchases before raising ST rates. Speculation seems like a bad thing, because it means the Fed may feel constrained from doing what, based on the latest data, it thinks best at the time of the decision and what it has said it would or would not do. And that may explain the delay until March ’22.
But as a statement of policy FAIT seems both clear and reasonable.
Yes, I can see Sumner argue that a Flexible Average NGDP Target might be better, given that some people still do not really “get” the idea that the Fed may sometimes want to increase inflation, not always “fight” it. In practice I can’t see how they would lead to different decisions if the real GSP growth and inflation target were compatible.
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[Standard from now on bleg: Although my style is know-it-all-ism, I do sometime entertain the thought that I might be mistaken on some minor detail. I would welcome what the diplomats call a frank exchange of views😊]
Originally, it was just AIT. The "F" was appended later, maybe to enable the Fed to fudge the concept. Anyway, at the time I thought the concept was DOA!
https://thefaintofheart.wordpress.com/2020/10/09/is-the-new-monetary-policy-framework-ait-an-improvement/