Inflation is behaving roughly in the manner I would have expected. I've really not seen significant surprises there. We've long said that important reason that inflation is as low as it's been is because of past declines in energy prices and increases in the value of the dollar.  And as those factors began to dissipate, we could see inflation moving up.  Now, that's exactly what we are seeing.  That's in line with our thinking and with the data. So those things have stabilized. Their influence is dissipating…

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I continue to think the evidence supports a projection that it will move up over the next couple of years back towards our two percent objective. But we've seen in the past, and economic theory suggests, that inflation expectations are relevant to price and wage setting decisions. So we do monitor indicators of inflation expectations carefully.

Inflation expectations measures have bounced back –with energy prices they have bounced back, but they’re still relatively low compared to where they were in the middle of 2014, before oil prices started declining. So I kind of thought, if you wanted to see some numbers that you thought were kind of satisfactory measures of TIPS-based inflation compensation, I think summer of 2014 was the last time that we saw that. And then it had gone down, down, down, down, down, and now they’re come back up. But they really have not come back up to the previous level. So I think they’re still pretty low.

The last time – these talks I was giving in Asia, I was using this number that the 10-year TIPS inflation compensation, you know, was on the order of 1.6 (percent), but then you have to subtract 30 basis points off that to get to the PCE inflation expectation. So it’s only like 1.3 (percent) over the next 10 years. So that’s a pretty low – pretty low inflation expectation. And then – you know, and that’s without subtracting any kind of liquidity premium or risk premium or anything like that.

So I would say that they’re too low. And I’m one that has put more emphasis on that argument, probably, than others on the Committee. Others will cite survey measures. The Committee will often put survey-based things in the statement. I don’t think the survey-based measures move around in a way that is responsive to economic conditions. It’s just kind of like – (chuckles) – you ask people, they give you the same number month after month. So…

I am projecting core inflation to end 2016 at 1.6 percent. Further ahead, I see both core and total inflation moving up gradually to approach our 2 percent inflation target within the next three years. This path reflects the dissipating effects on consumer prices of earlier declines in energy prices and the appreciation in the dollar as well as the influence of further improvements in labor markets and growth in economic activity.

However, as with growth, I see downside risks to the outlook for inflation. The recent pickup in core inflation could prove to reflect more temporary volatility than I have assumed (we saw this happen in 2012). Or international developments may result in further declines in energy prices or greater appreciation of the dollar. Most worrisome to me is the risk that inflation expectations might drift lower. Here, I find it troubling that the compensation for prospective inflation one can glean from a number of financial asset prices has fallen considerably over the past two years. More recently, some survey-based measures of inflation expectations, which had previously seemed unmovable, edged down to historically low levels. True, financial market inflation compensation and some survey measures of inflation expectations have risen a bit of late, but they still remain quite low.

I’m becoming more confident that inflation is likely to return back to our 2% objective. Namely, if you look at core inflation in particular, it has been pretty stable over the last year despite the weakness in energy prices and despite the strength in the dollar. ... The fact that core inflation was pretty flat in the period ... should make you a little more confident that inflation will return over the medium term to our 2%.
In response to a question about the downtick in the year-over-year growth rate of the core PCE price index:
The core PCE deflator on a year-over-year basis has been bouncing around a little bit. It ticked up a little bit in the first quarter and it looks like it will tick back down a little bit in the second quarter, and I would view that as mostly noise – I wouldn’t take a lot of signal from that.

My concern is that given these conditions, an interest rate path at the pace embedded in the futures markets could risk an unemployment rate that falls well below the natural rate of unemployment. We are currently at an unemployment rate where such a large, rapid decline in unemployment could be risky, as an overheating economy would eventually produce inflation rising above our 2 percent goal, eventually necessitating a rapid removal of monetary policy accommodation. I would prefer that the Federal Reserve not risk making the mistake of significantly overshooting the full employment level, resulting in the need to rapidly raise interest rates – with potentially disruptive effects and an increased risk of a recession.

One reason I am let's say supportive of a patient and cautious posture is because I don't think the (Fed) is behind the curve particularly as it relates to inflation.

So far, survey evidence, like that obtained from the Philadelphia Fed’s Survey of Professional Forecasters, does not indicate any unanchoring of inflation expectations. However, market-based measures are showing that investors are seeking less compensation for inflation. But there are downside risks to my baseline forecast. In particular, we have been below our inflation target for all but two years since 2008. Consistently below-target outcomes will eventually lead to a lack of credibility for our 2 percent goal. Hence, it may be worth erring on the side of accommodation to ensure against that outcome.

The recent rise in inflation and in measures of inflation expectations have increased my confidence around this outlook compared to earlier in the year, but it is still possible that the return of inflation to our objective could take longer than I anticipate... Although the downside risks have diminished since earlier in the year, I still judge the balance of risks to my inflation and growth outlooks to be tilted slightly to the downside.

I have been concerned about inflation expectations. And when I talked in mid-February especially, you had the five year, five year forward TIPS inflation measures down below 1.5 percent. That got me, you know, kind of nervous and I — and I started to flag those.

Now, they have recovered probably back to December levels. And I find that comforting. But you’d actually like to see those numbers even somewhat higher than they are today. And because they reflect somehow the credibility of the Fed and its ability to hit a long run inflation target of 2 percent.
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The inflation themselves have been stronger. The year-over-year inflation numbers have been stronger, PC core at 1.7 percent. So it’s definitely coming up toward the 2 percent target just as the Committee predicted. So this is one of the cross-currents here. You’ve got slow growth, but you do seem to get inflation moving back toward target.

Core PCE inflation also has run well below 2 percent for quite a long time. Over the past couple of months, however, core inflation moved up to 1.7 percent on a year-over-year basis. I am encouraged by this development, and have raised my forecast for core inflation in 2016 to 1.6 percent. Looking further ahead, I see both core and total inflation moving up gradually to approach our 2 percent inflation target within the next three years.

Over the past couple of months, however, core inflation moved up to 1.7 percent on a year-over-year basis. I am encouraged by this development, and have raised my forecast for core inflation in 2016 to 1.6 percent. Looking further ahead, I see both core and total inflation moving up gradually to approach our 2 percent inflation target within the next three years.
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However, I am a bit uneasy about this forecast. It is too early to tell whether the recent firmer readings in the inflation data will last or prove to be temporary volatility and reverse in coming months. We saw this happen in 2012. And there are some other downside risks to consider. International developments may result in further declines in energy prices or greater appreciation of the dollar. Most worrisome to me is the risk that inflation expectations might drift lower. Undershooting our 2 percent inflation target for as long as we have raises the risk that the public will expect persistently low inflation in the future. If such a mind-set becomes embedded in decisions regarding wages and prices, then returning inflation to 2 percent will be that much more difficult. Here, I find it troubling that the compensation for prospective inflation built into a number of financial market asset prices has drifted down considerably over the past two years. More recently, some survey-based measures of inflation expectations, which had previously seemed unmovable, edged down to historically low levels. True, financial market inflation compensation and survey measures of inflation expectations have risen some of late, but they still remain quite low.

Liesman: You talked about agreements and disagreements is there a split on the federal reserve? A bunch of folks stepped out last week and said that april was the time the feds should consider it but i don't hear that from fed chair janet yellen at all that april is even on the table.

Evans: Well, in fairness I think she did say during the press conference well, of course we go into these meetings, April is live, they're all live meetings, we go in to talk about things. I would say the threshold for having confidence that inflation is going to sustainably move up towards our 2% inflation target is high. That hurdle is pretty high. So I'd be surprised if we met that condition myself in April. I think moving in June would be on the basis of further improvements in the labor market like what we've had.

Liesman: So you're thinking a 75 basis point 1% fed funds rate with a 2%, 2.5% economy and you don't feel like you're behind the curve in that environment?

Evans: No. I don't think inflation is going to get out of hand. Remember, we've been under 2% for a long time, we're supposed to be at 2%. It's a symmetric objective. Half the time we ought to be above 2%. I don't think we should be concerned about going through 2% on the way to making sure we get to 2% with high confidence. Of course we wouldn't want it to get out of hand. I don't think we're looking at anything like that in the U.S. so I think that we have the ability to be cautious.

I continue to expect that overall PCE inflation for 2016 as a whole will come in well below 2 percent but will then move back to 2 percent over the course of 2017 and 2018, assuming no further swings in energy prices or the dollar.