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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.
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.