Last week’s promising inflation numbers show core inflation dropping; if this continues, there is a real opportunity to secure a soft landing without a recession. The Federal Reserve’s current strategy of bringing inflation down to 2 percent, even at the risk of increased unemployment, undermines this possibility. This creates a false dichotomy for the Fed between achieving full employment and stable inflation during economic recoveries. However, as argued in a new Roosevelt brief, “A New Framework for Targeting Inflation: Aiming for a Range of 2 to 3.5 Percent,” if the Fed shifts its target to better fulfill both parts of its dual mandate, it can reduce inflation while also preserving the benefits of a strong labor market.
Authored by Roosevelt Fellow Justin Bloesch, the brief proposes a new target inflation range between 2 percent and 3.5 percent and an asymmetric employment target that responds to shortfalls from maximum employment. Bloesh argues that the Fed’s current focus on a single target inflation rate creates real risks of overtightening the economy—i.e., constricting spending by increasing interest rates—because it doesn’t allow the Fed to shift its approach in response to different drivers of inflation. Moreover, the Fed has a limited ability to correct after overtightening.
By analyzing data from the slow recovery following the Great Recession and high inflation following the disruptions of COVID-19 and the war in Ukraine, Bloesch demonstrates the clear benefits of a target inflation range:
- A range solves the problems central bankers saw in the Great Recession: During a recovery, the Federal Reserve can overshoot 2 percent, minimizing the risk of tightening before full employment is reached, as it did in 2015.
- A target range also helps when bringing inflation down from high levels, as in the current economy: It allows inflation to settle at a moderate level while maintaining high employment levels through a soft landing, minimizing the risk of overcorrecting and generating a recession.
“We can turn to many countries around the world with target ranges of inflation to see their success,” says Bloesch. “For example, both Canada and Australia have inflation range targets and have experienced strong employment growth while maintaining stable inflation. This best-case scenario is possible and well within our reach.”
“No matter the framework, all economic indicators suggest that the Fed should pause interest rate hikes,” Mike Konczal, Roosevelt director of macroeconomic analysis, says. “In the future, an inflation target range would allow the Fed to better execute monetary policies, minimizing the risk of overreacting to inflation and causing a recession” says Konczal.