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Shifting to an Average Inflation Target

Lower for Even Longer — Or Throwing in the Towel?

The decision by the U.S. Federal Reserve to adopt an average inflation target had been widely anticipated by markets. Though a subtle change in policy, the implications for investors could turn out to be both meaningful and profound over time.

This selection of carefully curated papers offers early insight into institutional investment thinking about the implications of the Fed’s policy shift, with several arguing that ‘lower rates for even longer’ is a key takeaway. Some see risks of higher inflation down the tracks, while recessionary fears perplex others. Whatever your stance, there are plenty of ideas here which may help to inform the debate.

 

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What is “Average Inflation Targeting”? (Brookings Institution)

The Hutchins Center of the Brookings Institution examines some of the complexities of average inflation targeting, why investors should be interested, and illustrates some of the potential pitfalls associated with this particular approach to inflation targeting.

New Framework for U.S. Monetary Policy (BNP Paribas AM blog, Aug 2020)

BNP Paribas AM's paper investigates the U.S. Federal Reserve's switch to average inflation targeting. They conclude that the main message to take away from this shift is that the accommodative stance in U.S. monetary policy is likely to persist for even longer than anticipated.

Average Inflation Targeting: A weak tool for the Fed (Peterson Institute, 2019)

In this paper, the Peterson Institute argues that average inflation targeting would be a weak additional policy tool for the Fed to adopt, as it may not allow as much flexibility in monetary policy responses as initially thought.

What Could the Fed’s New Policy Mean for Investors? (Invesco, Sep 2020)

For compliance reasons, this paper is only accessible in certain geographies

Invesco looks at the Fed's new inflation policy framework and gauges the potential repercussions of the shift in policy stance for investors.

Alternatives to Inflation Targeting in Australia (Brookings Institution, 2018)

This paper from the Brookings Institution looks back at 25 years of average inflation targeting, as adopted by the Reserve Bank of Australia. Concluding that historically, it appears to have worked well, they do also caveat that Australian monetary policy may be due an overhaul if it is to cope with the next 25 years successfully.

Subtle Fed Shift May Let Inflation Build (Federated Hermes blog, Aug 2020)

Federated Hermes' R.J. Gallo, CFA, opines on what the inflation policy change by the Fed may mean for investors. Lower rates for even longer and a shift away from reliance on the Phillips curve as a primary informer in policy debates, are his main conclusions.

The Impact of Average Inflation Targeting (Fulcrum Asset Management, 2020)

Fulcrum Asset Management explores the benefits and drawbacks of adopting an average inflation target, noting that inflation has consistently undershot the Fed's target of 2% since 2012. By implication, this suggests that inflation needs to run 'hot' for a while and then be brought back down, a policy which may have significant recessionary risks.

Fed Doubles Up On 2% Inflation (PGIM Fixed Income, Aug 2020)

PGIM Fixed Income comments on the Fed's recent policy moves and offers insights into how the changes to the monetary policy framework might impact investors.

A Superfluous Tweak to the Fed’s Mandate (Janus Henderson blog, Aug 2020)

For compliance reasons, this paper is only accessible in the United States and Canada

Janus Henderson suggests that the Fed's adoption of a more flexible approach to inflation masks something of far greater concern: a feedback loop of debt and deflation.

Powell's Policy Shift Doesn't Need a Speed Limit (John Authers, Aug 2020)

John Authers explores some of the reasoning that may have been behind the Fed's decision to move to average inflation targeting, and how, even with loose monetary policy, both inflation and growth have remained depressed since the financial crisis.

Average Inflation Targeting and the Interest Rate Lower Bound (ECB, 2020)

This paper by the ECB examines the implications of average inflation targeting using a variety of economic models and concludes that they may be beneficial, subject to circumstance. Unsurprisingly, future monetary policy and macroeconomic outcomes are primarily contingent on understanding existing market conditions.

Fed policy shift bodes well for corporate credit (Moody's, Aug 2020)

Moody's Analytics looks at the Fed's adoption of average inflation targeting in the context of corporate credit issuance reaching record highs in August. They believe that rates will remain lower for longer, thus providing a positive backdrop for corporate credit.

The Case for Inflation (MFS blog, Aug 2020)

In this paper from MFS, they argue that the unconventional measures and fiscal stimuli used to help insulate economies from the worst of the COVID pandemic will eventually result in higher levels of inflation.

Higher Inflation: Eventually (Wellington Management blog, Jul 2020)

Wellington's London office Macro Strategist, John Butler, argues for significantly higher inflation in the medium to longer-term. Driven in part by localisation in supply chains and some 'levelling up' in income and regional inequality, higher fiscal spending by governments is likely.

Money Velocity Increase may not Mean Inflation (FTSE Russell blog, Aug 2020)

FTSE Russell's Head of Global Investment Research, Phillip Lawlor, suggests that investors should also consider money velocity and aggregate demand before they get too concerned about the inflation implications of a rapidly increasing money supply.

What More can Monetary Policy do? (NN IP blog, Aug 2020)

This paper from NN Investment Partners argues that to boost employment and get inflation up to target, then a revised monetary policy model is required by central banks. They envisage three workable solutions, each of which has its own issues, and argue that more fiscal easing might be the most acceptable solution, but that has its own risks.

Five Facts Investors Should Know About Inflation (DWS blog, Aug 2020)

In the wake of the tsunami of money washing through the financial system from fiscal stimulus programmes and easy monetary policy, DWS argues that investors should be conversant with the implications of an inflationary environment.