Tuesday, February 20, 2007

Fed chief warned on inflation target

Fed chief warned on inflation target
By Krishna Guha in Washington
Copyright The Financial Times Limited 2007
Published: February 19 2007 21:26 | Last updated: February 19 2007 21:26

It would be a “terrible mistake” for the Federal Reserve to adopt any form of inflation target to guide its interest rate decisions, Barney Frank, the Democratic chairman of the House financial services committee, has told the Financial Times.

Mr Frank, whose committee is one of two in Congress charged with oversight of the US central bank, said such a target “would come at the expense of equal consideration of the other main goal, that is employment”.

His comments come as Fed policymakers enter the later stages of a far-reaching strategy review that has included detailed debate over the merits of adopting an inflation target.

Ben Bernanke, chairman of the Fed, believes that the bank would be better off with a relatively flexible inflation target – one that would be achieved on average, rather than within a specific time, giving maximum latitude to respond to output shocks.

However, Fed watchers say that, in order to make any such change, Mr Bernanke would need at least the tacit consent of key figures in Congress. Mr Frank’s unequivocal statements suggest this consent will still be difficult to secure even after generally favourable congressional hearings last week.

In an interview, Mr Frank told the FT that Mr Bernanke “has a statutory mandate for stable prices and low unemployment. If you target one of them, and not the other, it seems to me that will inevitably be favoured.”

Mr Frank noted that Alan Greenspan, the former Fed chairman, always resisted an inflation target on the grounds that it would reduce his operational flexibility.

“I think Alan Greenspan was right not to do that in the 1990s,” Mr Frank said. The lack of a formal inflation target helped Mr Greenspan probe how low unemployment could fall without generating inflation.

Advocates of an inflation target at the Fed say it is important to distinguish between the relatively rigid form of target used, for instance, by the Bank of England, and the relatively flexible form favoured by Mr Bernanke.

Mr Frank, though, said he would not support even a flexible target “without equal attention to unemployment also”. He agreed that Mr Bernanke and his colleagues probably had an implicit inflation target in mind already, but said it would be dangerous to make it explicit.

“I think when you make it more transparent you enhance its importance,” Mr Frank said. “No question he has something in his head. But when you make it public you lose flexibility.”

Mr Frank said he would listen to the Fed chairman’s arguments, but suggested he was quite firm in his views. “I am always willing to talk to him,” he said. “But he is as likely to change my mind as I am to change his.”


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