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Fed's Kohn, Santomero Say Inflation Targeting Debate Continues

Fed's Kohn, Santomero Say Inflation Targeting Debate Continues

April 2 (Bloomberg) -- The Federal Reserve remains divided about setting an explicit inflation target for the U.S., leaving it an open question for the next chairman of the Federal Reserve to resolve, Fed policy makers said today.

``It will very much depend on the new chairman, what that person wants to do and how persuasive that person is,'' said Fed Governor Donald Kohn, an opponent of inflation targeting proposals advanced by policy makers such as Philadelphia Fed President Anthony Santomero.

Alan Greenspan, who has led the Fed since 1987, opposes a setting a numerical goal for inflation, contending it limits flexibility in responding to changing economic conditions. He will retire from the Fed Jan. 31, when his non-renewable term as governor ends. Santomero and Kohn debated the issue at a conference on the future of the Fed held at Princeton University's Center for Economic Policy Studies.

Santomero said inflation targeting would make the Fed more transparent to the public and anchor inflation expectations, helping give the Fed room to stimulate the economy when it's weak. Kohn said inflation targets are too rigid and would prevent the sort of ``flexible,'' ``risk-management'' approach to monetary policy followed under Greenspan.

The Federal Open Market Committee debated inflation targeting at its Feb. 1-2 meeting and did not reach a consensus, according to the minutes of the meeting.

`Time Has Come'

``Inflation targeting is an idea whose time has come,'' Santomero said. By telling consumers and investors that the Fed is committed to act to keep inflation within a target range, the Fed would be able to respond to weakness in the economy without causing inflation scares, he said.

Santomero proposed an inflation target range of 1 percent to 3 percent on the personal consumption expenditures index excluding food and energy. The central bank should target the 12- month moving average of the inflation gauge so that it doesn't overreact to short-term fluctuations in the index.

``I am a skeptic,'' said Kohn. ``Inflation targeting is not well adapted to the risk-management style of monetary policy'' practiced at the Greenspan Fed, he said.

By boiling the central bank's policy down to one set of numbers, inflation targeting would lessen the Fed's flexibility in responding to competing priorities such as financial stability, he said.

``It weighs against sustained errors, but also against extraordinary policymaking,'' Kohn said. ``Current practices have been very successful. I find it very difficult to believe that inflation targeting would have improved on policy over the past 25 years.''

Divided Fed

``There is no loss of flexibility,'' with inflation targeting, Princeton University economist Lars Svensson told the central bankers and the audience of academics and Wall Street economists. ``You can choose how much weight you put on each of your objectives'' within the inflation-targeting framework, he said.

Five of the 12 regional Fed presidents support inflation targets. The others are Gary Stern of Minneapolis, Janet Yellen of San Francisco, William Poole of St. Louis and Jeffrey Lacker of Richmond. Governor Ben Bernanke, who yesterday was named head of the president's Council of Economic Advisors, also supports an explicit inflation target.

Countries such as Britain, Canada, and New Zealand began using numeric targets as the basis for monetary policy to help convince the world they were serious about containing inflation, and to build their credibility.

Congressional Concern

The U.S. inflation-targeting debate is taking place as central bankers attempt to lift borrowing costs to a level where monetary policy no longer stimulates the economy, in order to head off future inflation. The central bank last month raised its fed funds target rate a quarter point to 2.75 percent, the seventh increase in a row.

The Fed's preferred inflation measure, the Commerce Department's personal consumption expenditures price index minus food and energy, rose 1.6 percent in 2004 and is forecast by the central bank to increase as much as 1.75 percent this year.

Kohn also said it might aggravate Congress, which gave the Fed a dual mandate to promote both price stability and full employment.

``Congress has been concerned that we put too much emphasis on inflation and too little on output,'' he said. ``Most forms of inflation targets would move us towards more of an emphasis on the medium-term inflation numbers.''

To contact the reporter on this story:
Andrew Ward in New York at [e-mail]

To contact the editor responsible for this story:
Kevin Miller in Washington at [e-mail]


LINK: http://www.bloomberg.com/apps/news?pid=10000087&refer=top_world_news&sid=a2thVADZaZbA