Powell Previews Adjustment Direction of Monetary Policy Framework, Warns of Persistently High Inflation Volatility in the Future

On Thursday evening Beijing time, Fed Chairman Powell delivered a speech at the Fed's headquarters in Washington, providing a preview of potential adjustments to the US Fed's monetary policy framework.

As background, the Fed is conducting its first review of the monetary policy framework since 2020, aiming to incorporate lessons learned from the 2021 inflation surge and subsequent aggressive interest rate hikes. The previous policy framework was also seen as one of the reasons for the Fed's "slow response" that year.

As part of the consultation process, the Federal Reserve Board is hosting the "Second Thomas Laubach Research Conference" from Thursday to Friday this week, inviting external experts, scholars, and officials for exchanges. The Fed is expected to complete its policy assessment by late summer this year, with a potential release window possibly being the Jackson Hole Economic Symposium at the end of August.

Powell: Consensus Statement to Be Revised

In his speech, Powell noted that in 2012, the FOMC, led by Bernanke, first codified the Fed's monetary policy framework in a document titled "Statement on Longer-Run Goals and Monetary Policy Strategy," also known as the "Consensus Statement." From 2012 to 2018, the FOMC voted annually to reaffirm the Consensus Statement. In 2019, the Fed decided to conduct a public assessment of the framework every five years.

Powell, who led the last policy assessment, also stated that during the 2020 assessment, policymakers faced nearly a decade of low interest rates, low growth, low inflation, and a very flat Phillips curve. Therefore, the core consideration of the Fed's monetary policy framework, which has been in use since then, has been to address the persistent shortfall in achieving inflation targets.

(Effective Federal Funds Rate before the pandemic, Source: US Fed)

That year, the Fed also decided that future policy decisions should be based on an assessment of "shortfalls from maximum employment" rather than "deviations."

This implied that the Fed was placing greater emphasis on addressing suboptimal employment conditions, raising the threshold for preemptive intervention against "employment overheating leading to inflation." Consequently, officials made a subtle but significant shift that year: maintaining interest rates slightly below the levels recommended by most models and allowing inflation to moderately exceed the target.

Under this policy framework, the Fed still judged at the end of 2021 that inflation would likely pull back rapidly in 2022, necessitating only a modest increase in policy interest rates—but reality proved otherwise.

Powell emphasized that since 2020, the economic environment has undergone significant changes, and the latest assessment will reflect the analysis of these changes. He also said that with the rise in real interest rates, inflation volatility in the future may be higher than the levels seen in the 2010s, and that the world is entering "a period of more frequent and potentially more persistent supply shocks."

The Fed Chairman stated that in the discussions so far, participants generally agreed on the need to review the language in the policy regarding the "gap" in employment. Meanwhile, during last week's policy meeting, officials also agreed to revise the so-called "average inflation targeting" framework. He also made it clear that stable expectations are the cornerstone of all policies, and that the US Fed remains firmly committed to achieving the 2% inflation target.

In addition to revising the consensus statement, the US Fed will also consider possible improvements to its formal policy communication methods, particularly in areas such as forecasting and uncertainty