The Federal Reserve adjusted its inflation target to seek price increases above 2 per cent annually, a move that will likely keep interest rates low for years to come.
The Fed on Wednesday also left its benchmark short-term rate unchanged at nearly zero, where it has been since the pandemic intensified in March. Fed officials also indicated in a set of economic projections that they expect the rate to stay there at least through 2023.
The Fed’s benchmark interest rate influences borrowing costs for home buyers, credit card users, and businesses.
The Fed’s statement says that because inflation has mostly fallen below its target of 2 per cent in recent years, Fed policymakers now “will aim to achieve inflation moderately above 2 per cent for some time.” It also says it will keep rates low until inflation averages 2 per cent over an unspecified period.
The change is significant for the central bank, because it means that Fed officials will accept higher inflation to make up for its previous shortfalls below 2 per cent. Previously, the Fed has ignored such shortfalls.
Fed chair Jerome Powell first said last month that the Fed would seek inflation above 2 per cent over time, rather than just keeping it as a static goal.
The change reflects a growing concern at the Fed that in recessions, inflation often falls far below 2 per cent, but it doesn’t necessarily reach 2 per cent when the economy is expanding. Over time, that means inflation on average falls further from the target. As businesses and consumers come to expect increasingly lower inflation, they act in ways that entrench slower price gains.
The Fed prefers a little inflation because that gives the central bank more room to cut or raise short-term interest rates.