The pandemic and the ensuing presidential elections dominate the scene in the US, and Brexit is also gradually coming back as an issue in the UK and Europe. The second wave of the pandemic has hit a number of countries in Europe which is likely to disrupt their economies further whereas there are no signs of it abating in the US. This may hamper the revival of the economy for an extended period of time according to some observers. Governments and central banks continue the pro-revival fiscal and monetary policies, but with a slant towards greater inflation-tolerance.
The Fed has already announced that they are alright with higher inflation and put the inflation target at an average of 2 %, a departure from the original policy. The ECB has also hinted at almost the same. They are not happy with low inflation and would want inflation to pick up faster. The higher inflation may support faster recovery and higher employment and output. This is gradually becoming acceptable to the free economies of the world in the light of the serious disruptions faced by these economies after the pandemic and the shutdown.
The Fed recently stated that there would be an extended period of low interest rates- it means three things, one, current economic conditions are extremely distressful, two , the time taken for recovery is likely to be longer than expected, and three, an extended period of low growth. If a long-drawn struggle for growth is anticipated, it naturally has consequences for corporate profitability and earnings growth. And this may not be good for the financial markets.
Fed Statement issued on Sept. 16, 2020, has kept the target range for Fed Funds Rate at 0 to 0.25%, and the inflation target at an average of 2%. The accommodative stance of the policy continues. The inflation rate is running persistently below the long run rate of 2% and the Fed is targeting higher inflation which is moderately higher than 2%. To summarise, the three distinctive features of the Fed policy are, one, the rate of discount is 0 to 0.25% which is likely to continue at the same level for years to come, two, the inflation targeting will be average inflation of 2%, and three, the quantitative easing also to continue for an extended period of time. The Fed Chairman mentioned the following in his public discussions:
On Quantitative Easing: “….will continue to increase our holdings of Treasury securities and agency
mortgage-backed securities at least at the current pace. These asset purchases are intended to
sustain smooth market functioning and help foster accommodative financial conditions, thereby
supporting the flow of credit to households and businesses”.
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