Getty Images Federal Reserve Bank Chairman Ben Bernanke

The dilemma of inflation expectations outpacing actual inflation is probably made worse by the Fed’s need to rely on unconventional monetary policy tools.

It appears that policies like quantitative easing are less effective at producing inflation than the Fed expected. The evidence for this is the fact that inflation has continued to run at a lower level than the Fed’s target. The asset purchases by the Fed just do not seem to be pumping that much money out into the economy.

But quantitative easing does seem to be doing a good job of creating inflation expectations. As Larry Kudlow pointed out yesterday, “inflation-sensitive market-price indicators — like rising gold, oil, and commodity indexes, and the falling dollar exchange rate — are trying to signal higher future inflation.”

I suspect that the cause of this breach between inflation expectations and reality is that we have so little experience with these unconventional policies. Markets understand pretty well how to anticipate the future consequences of the ordinary Fed policies like targeting interest rates. But the very newness of quantitative easing means that the outcome is difficult to predict.

There’s also the question of the competence of the Fed. Many people have been arguing for months that the Fed lacks a credible “exit strategy” from its loose monetary stance. This  worry is very justifiable.

The Fed doesn’t have any experience with its new tools—so it could very well bungle their operation. And when you bungle monetary policy, you can wind up with inflation spiraling out of control.

The irony is that nearly everyone is misreading what has happened.

What Bernanke is worried about is not that we’ll get too much inflation—he knows he can just put a stop to inflation by hiking rates—but that anticipation of inflation will get out of hand. And that is something he cannot directly control.

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