Should the FOMC announce what its inflation objective is? Answering this question is simple in principle. If announcing a specific, numerical inflation objective enhances the efficacy of monetary policy, then the answer is yes. If doing so reduces the efficacy of monetary policy, the answer is no. I believe the answer is yes .

I anticipate that the adoption of a formal inflation objective would result in some, probably modest, further reduction in the level and variability of nominal long-term bond yields.  Adopting a formal inflation objective, and success in achieving that objective, will also enhance policymakers’ ability to pursue other policy objectives, such as conducting countercyclical monetary policy.

A specific target range, such as 1 to 2 percent annual change in a particular price index, has the advantage of focusing attention on low-frequency inflation. Even here, there could be special circumstances, which the Fed should explain should they occur, that would justify departure from the target.

In the early 1960s, as today, the Fed enjoyed a high degree of market confidence and inflation expectations were low. At that time, only a small minority of economists thought that monetary policy was “broken” in any important way, and thus the case for “fixing it” was minimal. Would a formal inflation target in 1960 have been an ironclad guarantee that the Great Inflation would never have happened? Surely not. Would it have helped? I believe that the answer is surely yes.

The inflation-targeting framework provides a vehicle, or structure, within which the FOMC can better explain its monetary policy actions and the policy risks it must face. Inflation targeting should increase accountability not so much by keeping score of target hits and misses but rather by encouraging a much deeper understanding of how monetary policy decisions are made.

Providing quantitative guidance to the public about the Committee’s long-run inflation intentions would have the benefit of reducing uncertainty about future monetary policy, and more securely anchoring long-run inflation expectations.

One area where {Bernanke} has differed with Chairman Greenspan is on how to define "price stability." Of course, both see price stability as a prime objective of policy. But for Chairman Greenspan, the definition has been behavioral—that is, he would say that we have achieved price stability when inflation is low enough that it does not affect people's economic decisions. In contrast, well before Bernanke was nominated to be Fed Chairman, he said that he would like to see the establishment of a numerical objective for price stability. If you're interested in getting a full articulation of his views, I'd recommend you take a look at a speech he gave in October 2003 at a conference at the St. Louis Fed. Since his nomination, he has said that he would not institute such an approach without a consensus among FOMC members.

[T]he price index for core personal consumption expenditures, has averaged 1.8 percent over the 12 months ending in November. That is within the 1-to-2 percent range that I and others have proposed as an announced target.

Core inflation has been low and relatively steady in the last several years. The inflation measure that is widely preferred on methodological grounds, the price index for core personal consumption expenditures, has averaged 1.8 percent over the 12 months ending in October. That is within the 1-to-2 percent range that I and others have proposed as an announced target.  Although core PCE inflation on a year-over-year basis did drift above 2 percent for several months in late 2004 and early 2005 — it went as high as 2.3 percent at one point — it was only after the most recent Annual Revision to the National Income and Product Accounts that the series came in over 2 percent.

Although the Federal Reserve has not announced a numerical inflation target, Ben Bernanke, the nominee to become Fed chairman in February, is on record favoring such a target. Although I am also on record favoring a formal numerical target, I believe the issue has not been a large one in the United States. Many observers believe that the Fed has been pursuing an inflation target range of 1-2 percent annual rate of increase of the core PCE price index. If the Fed does adopt a formal target in the future, I doubt very much that statistical tests for a regime break would be able to find one in an economic series such as an inflation index, employment or real GDP.

My views on inflation targeting now are that it represents a continuity with the existing approach of the Federal Reserve System.  The existing approach of the Federal Reserve System focuses on maintaining medium- and long-term inflation stability as the primary contribution that the Fed can make to maintaining stability of the general economy.  We've seen, for example, in the last 20 years, that the economy's become more stable, that employment growth and output growth have been stronger and more stable, that recessions have been less frequent. I attribute that to the maintenance of stable inflation and inflation expectations.  So in that respect, the inflation targeting ideas that I've espoused simply are an attempt to perhaps codify or strengthen this important commitment of the Federal Reserve to maintaining low inflation.  I also think of [inflation targeting] as a continuation of the Fed's recent progress toward greater transparency in policymaking.  Over the past 10 years, the Fed has become incredibly more open about its processes, about its decision-making.  And I believe this is just a single step, and indeed just an incremental step, that would add to that transparency.  But in particular, I'd like to emphasize to those who may be concerned that I do in no way intend to make any significant change in the overall approach to monetary policy that was developed under Chairman Greenspan.

Since this is not a change in objectives or a change in fundamental operating procedure, in my view, the kinds of suggestions I am making would not require a change in the law. If I thought they did, I think I believe I would not follow them through, because I'm not interested in changing the mandate of the Federal Reserve.

Under Chairman Greenspan, talk and action were combined to ensure the markets that over a period of time -- not necessarily within a quarter or two-quarters, but over a period of time, perhaps lasting several years, the Fed would ensure that inflation was stabilized in a region that was consistent with the objective of price stability.
So that is the approach I would take. I would certainly not try to return inflation to a target within a short period of time. I would simply try to assure the markets that over a long period of time that the Federal Reserve was committed to price stability as a central part of its monetary strategy.

With respect to choosing a inflation objective in the medium term, there are many considerations one would want to take into account, familiarity by the public, for example. So that I think would be something that would need to be discussed by the Federal Open Market Committee and in our general consultations. To the extent that, say the CPI overstates inflation by an approximately known amount, one could simply adjust the range of inflation rates that define price stability to allow for that bias.

Under Chairman Greenspan, monetary policy has become increasingly transparent to the public and the financial markets, a trend that I strongly support...One possible step toward greater transparency would be for the FOMC to state explicitly the numerical inflation rate or range of inflation rates it considers to be consistent with the goal of long-term price stability...I view the explicit statement of a long-run inflation objective as fully consistent with the Federal Reserve's current policy approach, including its appropriate emphasis on the role of judgment and flexibility in policymaking.  Most important, this step would in no way reduce the importance of maximum employment as a policy goal. Indeed, a key justification for this action is its potential to contribute to stronger and more stable employment growth by further stabilizing inflation and inflation expectations. In any case...if I am confirmed, I will take no precipitate steps in the direction of quantifying the definition of long-run price stability. This matter requires further study at the Federal Reserve as well as extensive discussion and consultation.