'Persistently Below-Target Inflation Rate is a Signal That the U.S. Economy is Not Taking Advantage of all of its Available Resources'

Narayana Kocherlakota, President of the Minneapolis Fed:

..I’m a member of the Federal Open Market Committee—the FOMC—and, as a monetary policymaker, my discussion will be framed by the goals of monetary policy. Congress has charged the FOMC with making monetary policy so as to promote price stability and maximum employment. I’ll discuss the state of the macroeconomy in terms of these goals.

Let me start with price stability. The FOMC has translated the price stability objective into an inflation rate goal of 2 percent per year. This inflation rate target refers to the personal consumption expenditures, or PCE, price index. ... That rate currently stands at 1.6 percent, which is below the FOMC’s target of 2 percent. In fact, the inflation rate has averaged 1.6 percent since the start of the recession six and a half years ago, and inflation is expected to remain low for some time. For example, the minutes from the June FOMC meeting reveal that the Federal Reserve Board staff outlook is for inflation to remain below 2 percent over the next few years.

In a similar vein, earlier this year, the Congressional Budget Office (CBO) predicted that inflation will not reach 2 percent until 2018—more than 10 years after the beginning of the Great Recession. I agree with this forecast. This means that the FOMC is still a long way from meeting its targeted goal of price stability.

The second FOMC goal is to promote maximum employment. What, then, is the state of U.S. labor markets? The latest unemployment rate was 6.2 percent for July. This number is representative of the significant improvement in labor market conditions that we’ve seen since October 2009, when the unemployment rate was 10 percent. And I expect this number to fall further through the course of this year, to around 5.7 percent. However, this progress in the decline of the unemployment rate masks continued weakness in labor markets.

There are many ways to see this continued weakness. I’ll mention two that I see as especially significant. First, the fraction of people aged 25 to 54—our prime-aged potential workers—who actually have a job is still at a disturbingly low rate. Second, a historically high percentage of workers would like a full-time job, but can only find part-time work. Bottom line: I see labor markets as remaining some way from meeting the FOMC’s goal of full employment.

So I’ve told you that inflation rates will remain low for a number of years and that labor markets are still weak. It is important, I think, to understand the connection between these two phenomena. As I have discussed in greater detail in recent speeches, a persistently below-target inflation rate is a signal that the U.S. economy is not taking advantage of all of its available resources. If demand were sufficiently high to generate 2 percent inflation, the underutilized resources would be put to work. And the most important of those resources is the American people. There are many people in this country who want to work more hours, and our society is deprived of their production. ...