The Ultimate Guide to Understanding the Federal Reserve’s Inflation Target

According to officials at the US Federal Reserve, the rate of average annual inflation is projected to reach 2% by 2026. This comes as the central bank’s monetary policy committee decided to leave interest rates unchanged in September.

Furthermore, the officials updated their forecast to reflect a slower pace of rate cuts compared to previous expectations. In June, they anticipated a reduction in the Fed’s benchmark interest rate from 5.6% to 4.6% by 2024. However, they now predict a decrease of only 0.5 percentage points to 5.1% in the following year. In the long term, the central bank plans to maintain the rate at 2.5%.

Despite these adjustments, the Fed’s forecasts still indicate a “soft landing” for the US economy, with inflation returning to its 2% target without a recession. The forecast for gross domestic product (GDP) in 2021 has risen to 2.1%, and it is expected to grow at a rate of 1.8% annually in the long run.

Chair Jerome Powell mentioned in a press conference that the Fed may consider one more rate hike before maintaining high interest rates for a period of time. While inflation data has cooled in the past three months, Powell emphasized the need to monitor the situation for a longer duration.

In making their projections, the Fed also takes into account potential factors such as a government shutdown, higher long-term rates, an oil price shock, the resumption of student loan payments, and the United Auto Workers (UAW) strike. These risks could accumulate and potentially push the US economy towards a recession, despite its current strong labor market.

Powell acknowledged the challenges of making accurate forecasts, stating, “Forecasting is very difficult. Forecasters are a humble lot with much to be humble about.”