Maintaining confidence in sustained price stability is crucial to fostering the most productive saving and investment decisions. In addition, it affords the Federal Reserve considerably more latitude to take short-run policy actions to help stabilize economic growth...[but] it cannot in and of itself force stronger growth than the economy is capable of delivering. Trying to push an economy beyond its potential may temporarily accelerate growth, but it also creates imbalances and increases inflationary pressures that must be addressed, and so boom leads to bust.

We have succeeded in reducing inflation expectations over the past 15 years. Although some measures of near-term inflation expectations have shown an uptick over the past month, longer-run expectations are that inflation will remain well-contained.

The actions of the Fed over the last 25 years have helped to produce a sustained period of low inflation, less variability in inflation, more stable inflation expectations, and a substantial reduction in output volatility. These are the best measures of credibility, and they look very good against the record of other central banks that now occupy the spectrum between the soft and flexible and pure and harder inflation targeters.

The Federal Reserve must monitor inflationary pressures and expectations carefully, and be prepared to act if they threaten price stability. Thus far, though, we have seen little evidence that long-run inflationary expectations have risen.

If people begin to expect higher inflation because of the current impact of oil prices, we could face a kind of scaled down version of the devastating wage-price spiral we lived through in the 1970s. The good news is that evidence from financial market indicators, surveys, and recent patterns of labor compensation all indicate that long-term inflation expectations have been extremely stable. Presumably, this reflects the market’s view that the Fed will continue to demonstrate that it’s willing to do what’s necessary to ensure U.S. price stability.

If people begin to expect higher inflation because of the current impact of oil prices, we could face a kind of scaled down version of the devastating wage-price spiral we lived through in the 1970s. The good news is that evidence from financial market indicators, surveys, and recent patterns of labor compensation all indicate that long-term inflation expectations have been extremely stable. Presumably, this reflects the market’s view that the Fed will continue to demonstrate that it’s willing to do what’s necessary to ensure U.S. price stability.

The economy seems to have entered 2005 expanding at a reasonably good pace, with inflation and inflation expectations well anchored.

If the economy follows the present forecast of slightly above-trend growth, then it would be appropriate for monetary policy to continue to move the real fed funds rate higher. The pace at which we move and the distance we move will depend, of course, on how the economy performs and how the forecast evolves. But we need to be careful to give the world confidence that we will conduct policy in a manner that will keep inflation expectations stable, at low levels.

[The spread between the yield on Treasury bonds and on Treasury inflation-indexed securities] is a measure of the inflation compensation demanded by market participants. Recently there has been a noticeable increase in the average compensation for inflation over the next five years. Looking further out, however, we see almost no change in the compensation for inflation from five to ten years into the future...The stability of long-term inflation expectations presumably reflects the market’s view that the Fed will continue to demonstrate that it is willing to do what is necessary to ensure price stability in the U.S. economy.

As long as the public remains confident in the Fed’s commitment to essential price stability — and the Fed conducts its policy in a manner consistent with that commitment — transitory adjustments in prices will not generate persistently higher inflation.

I expect that core inflation will remain in its current range. Moreover, surveys indicate that inflation expectations over the longer-term appear to have remained well-anchored.

Market participants, I think, are confident, and I hope they are correct, and I believe they are, that inflation is going to stay low in this country.  It's going to stay low, in part, in large part, because we in the Federal Reserve are committed to maintaining low inflation.

Inflation has remained steady this past year [2004], and, just as importantly, inflation expectations have been contained.

For 2005, I expect inflation to come in between one and two percent, as measured by the PCE price index, and I expect inflation expectations to remain contained.