Flexible Average Inflation Targeting: How Much Is U.S. Monetary Policy Changing?

Jarod Coulter, Roberto Duncan and Enrique Martínez García (emg.economics@gmail.com)

No 417, Globalization Institute Working Papers from Federal Reserve Bank of Dallas

Abstract: One major outcome of the Federal Reserve’s 2019–20 framework review was the adoption of a Flexible Average Inflation Targeting (FAIT) strategy in August 2020. Using synthetic control methods, we document that U.S. inflation rose post-FAIT considerably more than predicted had the strategy not changed (an average of 1.18 percentage points during 2020:M8-2022:M2). To explore the extent to which targeting average inflation delayed the Fed’s response and contributed to post-FAIT inflation, we adopt a version of the open-economy New Keynesian model in Martínez-García (2021) and document the economic consequences of adopting alternative measures of average inflation as policy objectives. We document three additional major findings using this general equilibrium setup: First, depending on how far back and how much weight is assigned to past inflation misses, the policy outcomes under FAIT are similar to those under the pre-FAIT regime. Secondly, we find that the implementation of FAIT can have large effects over short periods of time as it tends to delay action. However, over longer periods of time—such as the 1984:Q1-2019:Q4 pre-FAIT period—its effects wash out and appear negligible. Finally, we find that different average inflation measures explain an average of 0.5 percentage points per quarter of the post-FAIT inflation surge, indicating that targeting average inflation by itself can only explain part of the inflation spike since August 2020.

Keywords: Open-Economy New Keynesian Model; Monetary Policy; Flexible Average Inflation Targeting; Survey Expectations (search for similar items in EconPapers)
JEL-codes: E52 E58 E65 F41 F42 F47 (search for similar items in EconPapers)
Pages: 60
Date: 2022-07-30
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge, nep-mon and nep-opm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:fip:feddgw:94541

DOI: 10.24149/gwp417

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