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Opinion | US Federal Reserve must get creative and act fast to end inflation spiral
- Despite the flashing warning signs, the Fed remains wedded to a monetary policy born of the low-inflation past
- With inflationary pressures going from transitory to pervasive, the policy rate should be the first line of defence
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Why you can trust SCMP
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The transitory inflation debate in the US is over. The upsurge in inflation has turned into something far worse than the Federal Reserve expected. It is presumed to have the wisdom and firepower to keep underlying inflation in check, but that remains to be seen.
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The Fed counsels patience. It is so convinced its forecast will turn out to be correct that it is content to wait. No surprise there – the Fed telegraphed such a response with its “average inflation targeting” framework last year.
In doing so, the Fed indicated it was prepared to forgive above-target inflation to compensate for years of below-target inflation. Little did it know what it was getting into.
In theory, average inflation targeting made sense – an arithmetic consistency of undershoots balanced by overshoots. In practice, it was an inherently backward-looking approach, conditioned by a long experience with slow growth and low inflation.
Like many, the Fed believed the pandemic shock of early 2020 was similar to the 2008 global financial crisis, underscoring the possibility of another anaemic recovery that could push already-low inflation dangerously towards deflation.
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Ever since the dotcom bubble burst, Fed policymakers have worried about Japan-like stagnancy for the US economy with lost decades of economic stagnation and persistent deflation.
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