THE FED TO TOLERATE HIGHER INFLATION AND STRENGTHEN FOCUS ON EMPLOYMENT

Highlights:

• Speaking at the Jackson Hole virtual summit Fed Chair Powell announced a throughout revision of its monetary policy strategy, which went above expectations.
• As widely expected, the Fed will shift to an average inflation targeting over the business cycle, allowing for temporary overshoots beyond the 2%. Noteworthy, though, the Fed will grant itself some wiggle room as the time span used to average inflation will not be defined precisely. 
• The surprise was the asymmetric treatment of labour market outcomes: higher unemployment rate will get a bigger weight than low rates in the new Fed reaction function. This adds a further downward bias to expected rates.
• The Fed signals a shift towards discretion and away from rules, as it acknowledged the difficulties in measuring with precision structural variables like the equilibrium unemployment rate. 

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