Powell announces new Fed approach to inflation that could keep rates lower for longer

The Federal Reserve announced a major policy shift Thursday, saying that it is willing to allow inflation to run hotter than normal in order to support the labor market and broader economy.

In a move that Chairman Jerome Powell called a “robust updating” of Fed policy, the central bank formally agreed to a policy of “average inflation targeting.” That means it will allow inflation to run “moderately” above the Fed’s 2% goal “for some time” following periods when it has run below that objective.

The changes were codified in a policy blueprint called the Statement on Longer-Run Goals and Monetary Policy Strategy, first adopted in 2012, that has informed the Fed’s approach to interest rates and general economic growth.

As a practical matter, the move means the Fed will be less inclined to hike interest rates when the unemployment rate falls, so long as inflation does not creep up as well. Central bank officials traditionally have believed that low unemployment leads to dangerously higher levels of inflation, and they’ve moved preemptively to head it off.

However, a speech Powell delivered to a virtual gathering of the Fed’s annual Jackson Hole, Wyoming symposium, and in accompanying documents that codified the new policy, signaled a shift away from the old thinking.

“Many find it counterintuitive that the Fed would want to push up inflation,” Powell said in prepared remarks. “However, inflation that is persistently too low can pose serious risks to the economy.”

The chairman’s speech began two minutes before the scheduled 9:10 a.m. ET embargoed release that financial markets had been expecting. His remarks did not initially draw a strong market reaction, but stock market futures later moved higher.

Powell noted that the interest rate level that neither constrains nor pushes growth has fallen considerably over the years and is likely to stay there.