Saturday, February 11, 2012

Inflation and the Fed



The Fed has set a target for 2% inflation using the PCE as the benchmark. The ability of the Fed to hit a target with consistency has never been high. There is a high likelihood of an overshoot. Currently, the inflation rate is above target but it is unlikely that the Fed will do anything about this excess. Their main concern has always been deflation and even now the setting of the target is a method to stop deflation more than a reason to control inflation at a set level. 

The break-even inflation based on nominal and TIPs bonds suggest that inflation expectations are below the target. Given this information, there is room for further expansion of the Fed balance sheet. 

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