Neel Kashkari, Essay: Why We Missed On Inflation, and Implications for Monetary Policy Going Forward

Fed Funds

“I see three steps in our policy process to bring inflation back down to 2 percent. The first step was to rapidly raise rates, which we did in 2022. Once we understood that our models were not capturing the inflationary dynamics noted above, we simply needed to raise rates aggressively until we were confident inflation had peaked and we weren’t falling further behind.”

“While I believe it is too soon to definitively declare that inflation has peaked, we are seeing increasing evidence that it may have. In my view, however, it will be appropriate to continue to raise rates at least at the next few meetings until we are confident inflation has peaked.”

“Once we reach that point, then the second step of our inflation fighting process, as I see it, will be pausing to let the tightening we have already done work its way through the economy. I have us pausing at 5.4 percent, but wherever that end point is, we won’t immediately know if it is high enough to bring inflation back down to 2 percent in a reasonable period of time. Once we see the full effects of the tightened policy, we can then assess whether we need to go higher or simply remain at that peak level for longer. To be clear, in this phase any sign of slow progress that keeps inflation elevated for longer will warrant, in my view, taking the policy rate potentially much higher.”

“The third step, as I see it, is to consider cutting rates only once we are convinced inflation is well on its way back down to 2 percent. Given the experience of the 1970s, the mistake the FOMC must avoid is to cut rates prematurely and then have inflation flare back up again. That would be a costly error, so the move to cut rates should only be taken once we are convinced that we have truly defeated inflation.”