“Based on labor market data alone, the probability of a reduction in the pace of asset purchases has increased,” said Federal Reserve Bank of St. Louis President James Bullard on December 9. Indeed, Fed watchers have been firmly focused on the improving labor market data in their handicapping of the prospects for an imminent Fed “taper” of its monthly asset purchases, known as “QE3,” which it began back in September 2012.
Yet the Fed has a dual mandate, the second aspect of which, inflation, has been galloping away from the Fed’s target. Indeed, the Federal Open Market Committee (FOMC) justified the launch of QE3 by referring specifically to the need to “ensure that inflation, over time, is at the rate most consistent with its dual mandate.” And “inflation,” Bullard noted, “continues to surprise to the downside.”
As the FOMC begins two days of meetings, we benchmark the Fed’s performance against each element of its mandate as well as a combination of the two. As today’s Geo-Graphic shows, the Fed’s preferred inflation measure has been moving away from the Fed’s 2% target faster than unemployment has been declining towards the 5.6% midpoint of the Fed’s range of longer-run estimates. Since QE3 began, inflation has declined from 1.7% to 0.7% (at its last reading in October) as unemployment has fallen from 7.8% to 7%. As our small inlaid graphic shows, if the Fed were placing equal emphasis on inflation and unemployment there would be no grounds for beginning to taper its monthly asset purchases at this time—the Fed is today farther away from its dual-mandate benchmark than it was when it launched QE3 last year.
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