Oct 4 (Reuters) - The Federal Reserve appears to be moving toward adopting specific numerical thresholds for inflation and joblessness as guideposts for monetary policy.
Most policymakers think doing so would be a useful step, minutes from the Fed's September policy-setting meeting showed.
But arriving at a consensus on what milestones to use - and how to communicate the shift away from the Fed's current guidance that rates will stay low through at least mid-2015 guidance - is tricky.
Just what are they discussing, and what are the challenges? Here are five questions and answers.
DOESN'T THE FED ALREADY HAVE A TARGET FOR INFLATION?
The Fed is charged with both maximizing employment and keeping prices stable - two goals that sometimes conflict, but at the moment, most policymakers say, do not. The Fed never explicitly defined either of those goals until this past January, when for the first time it adopted an inflation goal of 2 percent. But saying that a particular rate of inflation is consistent with price stability is very different from pledging a particular policy - say, keeping short-term interest rates at their current near-zero level - until and unless inflation nears a specific rate. If inflation risks move above the threshold, the Fed would consider tightening policy. Some Fed policymakers think that framing policy in terms of specific economic milestones could give the public a better idea of its policy intentions.
WHAT ABOUT UNEMPLOYMENT?
The Fed has not adopted a target on the unemployment side, in large part because economists cannot agree on how low unemployment can go before wage pressures start to build. That makes it a challenge to choose a numerical threshold below which the Fed would consider tightening policy. Making things more difficult, the unemployment rate can be swayed by people entering and leaving the work force. Fed policymakers closely watch job gains and other measures of labor market health, and some have proposed using these markers in setting thresholds.
WHY NOT JUST PROVIDE A TIMEFRAME FOR HOW LONG A PARTICULAR POLICY WILL STAY IN PLACE?
That's what the Fed has done for a several years now, and it is an approach that many policymakers have said they are uncomfortable with. They worry that saying exceptionally low interest rates are "likely to be warranted at least through mid-2015" sounds too much like a promise that rates will stay low for another three years, regardless of what happens in the economy. Pledging low interest rates until unemployment reaches a certain level, or inflation rises above a set pace, might let the Fed tailor policy better to changing economic conditions.
WHAT WOULD SUCH A POLICY LOOK LIKE?
Two top Fed officials have publicly touted versions of a threshold-based policy. Chicago Fed President Charles Evans has urged the Fed to pledge low rates until unemployment falls below 7 percent, as long as inflation does not threaten to rise above 3 percent. Last month Minneapolis Fed President Narayana Kocherlakota proposed keeping rates where they are as long as inflation stays between 1.75 percent and 2.25 percent, until the jobless rate reaches 5.5 percent, a level that many economists consider full employment.
IF IT'S SUCH A GOOD IDEA, WHAT'S STOPPING THEM?
While most policymakers think moving to a numbers-based framework would be useful, it's hard to find agreement on the numbers. How high above the Fed's 2 percent goal is too high? A few tenths of a percentage point, as Kocherlakota argues? Or a full percentage point, as Evans does? With jobs, there are even more questions, since many policymakers view the unemployment rate as only a crude approximation of labor market health, and also watch job gains and other measures. Policymakers also worry that guideposts could wrongly be interpreted as triggers for an automatic policy response, or that they might be confused with policymakers' vision for long-term economic health. For while Evans believes 7 percent unemployment is an appropriate threshold for rethinking policy, he also thinks unemployment should eventually be pushed much lower.
(Reporting by Ann Saphir in Chicago; Editing by Leslie Adler)
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Keywords: USA FED/TARGETS