Fed’s rosy economic scenario leaves inflation puzzle for Powell

WASHINGTON (Reuters) – As incoming Federal Reserve Chair Jerome Powell works through his holiday shopping list, he might consider the nearly 50 percent discount he could get buying Calvin Klein underwear online instead of at the local mall.

FILE PHOTO – Jerome Powell testifies before the Senate Banking, Housing and Urban Affairs Committee on his nomination to become chairman of the U.S. Federal Reserve in Washington, U.S., November 28, 2017. REUTERS/Joshua Roberts

In the litany of reasons that explains why U.S. consumer price inflation has stalled, the drop in clothing prices last month, which was the largest in 20 years, takes its place alongside cheap cellphone contracts, one-off declines in drug prices and cheap gasoline, among others.

The Fed considers all of these price drops “transitory,” but there have been enough in a row for the central bank to miss its inflation target five years running, and fresh economic projections this week indicate policymakers remain mystified about why prices are not rising, given unemployment is at a 17-year low and the economy is growing steadily.


When the Fed met this week and raised short-term interest rates for the fifth time since late 2015, the inflation issue triggered two dissents among the nine voters on the policy-setting Federal Open Market Committee, and that division could widen.

“Inflation … is too low and has been for some time,” Chicago Fed President Charles Evans said in a dissenting statement on Friday.

Evans, who will not be voting on monetary policy in 2018, framed low inflation as a long-term problem if businesses and households stop believing the Fed is committed to its 2 percent inflation target.

A low but steady level of inflation is considered healthy in developed economies, but it depends importantly on public psychology and expectations that Evans said “appear to me to have drifted down.”


The debate will likely dog Powell during his early months as Fed chief. It will be hard for the Fed to justify further rate increases unless inflation moves toward the central bank’s target.

That, in turn, would saddle Powell with exceptionally low interest rates, and little room to respond with rate reductions in the event of a recession.

Fed Chair Janet Yellen, in her final press conference as head of the central bank, had little advice other than to acknowledge that something may be fundamentally wrong about how the Fed looks at inflation, unemployment and the important relationship between them.

“I have tried to be straightforward in saying that this could end up being something that is more ingrained and turns out to be permanent. It’s very important to watch it and, if necessary, rethink,” Yellen told reporters on Wednesday, referring to the Fed’s inflation miss.

The economic projections issued this week after the Fed’s policy meeting contained what seems to be an internal tension.

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