Rick Bowmer/ AP
- Cleveland Fed economists wrote a working paper arguing that inflation will remain above the Fed's 2% goal by the end of 2025.
- Unemployment will soar and a deep recession will ensue if the Fed remains committed to its current goals, the economists said.
- "The Fed may change its inflation target at some point, but that will only happen after a recession is well underway and inflation is coming down quickly," DataTrek said.
Economists at the Cleveland Fed argued in a recent working paper that for the central bank to achieve its 2% inflation goal, it would require drastically higher unemployment and a deep recession.
Fed Chairman Jerome Powell has said that the target will not be changing. But the Cleveland Fed economists are warning of the downsides to that, noting that policymakers' Summary of Economic Projections (SEP) appears to be a stretch.
"Our model projects that conditional on the SEP unemployment rate path and a rapid deceleration of core goods prices, core PCE inflation moderates to only 2.75 percent by the end of 2025: inflation will be higher for longer," wrote authors Randal Verbrugge and Saeed Zamand.
The economists added that for the Fed's stated 2% inflation target to be achieved, the unemployment rate would have to climb to 7.4% for one year. That's more than double the currency jobless rate of 3.4%.
"A deep recession," the economists said, "would be necessary to achieve the SEP's projected inflation path. A simple reduced-form welfare analysis, which abstracts from any danger of inflation expectations becoming unanchored, suggests that such a recession would not be optimal."
According to a Thursday note from DataTrek Research, the Fed economists are suggesting that the economy would be better off if policymakers were to ease their inflation target, and that doing so wouldn't alter longer-term inflation expectations that significantly.
The paper could be a sign that the Fed may consider a change to its inflation target, DataTrek added, notwithstanding Powell's public rejection of the idea.
"The Fed may change its inflation target at some point, but that will only happen after a recession is well underway and inflation is coming down quickly," Nicholas Colas, co-founder of DataTrek, said. "In that scenario, stocks are lower than they are today. We will have other things to worry about at that point besides whether the Fed's inflation target should be 2.0 or 2.75 percent."