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Chart of the Day: Falling Inflation Expectations and Fed Credibility

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The Cleveland Federal Reserve Bank yesterday reported its "latest estimate of 10-year expected inflation is 1.53 percent. In other words, the public currently expects the inflation rate to be less than 2 percent on average over the next decade (see chart above)."

The chart (which I can't get to show up properly so just follow this link) shows that 10-year expected inflation has been falling for quite some time. It is now quite a ways below the 2 percent rate that the Federal Reserve has officially said is consistent with its legal mandate to pursue price stability and maximum employment.

The Fed first publicly announced its target, which had previously been assumed to exist somewhere in the range of 1.7 to 2 percent, just over a year ago. It hoped that communicating the inflation goal would foster price stability and promote maximum employment.

Now we see, however, that the Fed lacks credibility on its inflation goal. The public just does not believe the Fed will hit its target. The public thinks the Fed will undershoot.

This has serious consequences. It means that despite zero-interest rates and large scale asset purchases, money is probably too tight right now.


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