U.S. Has Room to Improve Inflation Expectations, Fed Paper Says

By: Vivien Lou Chen
Publication date: August 14, 2006
Published in: Bloomberg.com

Aug. 11 (Bloomberg) -- The U.S. is less successful in holding down price expectations than countries such as the U.K., Sweden and Canada, which have inflation targets, according to a paper released by the Federal Reserve Bank of San Francisco.

The yield spread, or the return that investors require as compensation for future inflation, on government bonds didn't respond systematically to economic news in those three countries, bank research adviser Eric Swanson said in a note today. It did in the U.S., though, suggesting long-term inflation expectations aren't as "completely anchored.''

"A better anchoring of inflation expectations in the U.S. could have many benefits, such as more stable and lower long- term interest rates,'' Swanson wrote.

Fed policy makers kept their benchmark interest rate at 5.25 percent on Aug. 8, suspending a two-year run of increases and leaving room for additional moves if inflation accelerates. Fed Chairman Ben S. Bernanke and regional presidents such as Janet Yellen of the San Francisco Fed support a numerical goal for inflation.

"Despite the generally superb performance of the U.S. economy and U.S. monetary policy over the past 15 years, there is still potential for improvement,'' Swanson said.

Prices paid by Americans for goods and services excluding food and fuel increased 0.3 percent in June for a fourth straight month. It's the longest such stretch of rising core inflation since January to April 1995.

Growth in the U.K., Europe's second-biggest economy, reached the fastest pace in two years last quarter and inflation in June remained above the bank's 2 percent target for a second month. The Bank of England unexpectedly raised its main rate by a quarter point to 4.75 percent on Aug. 3 to restrain inflation.

Sweden's annual inflation rate fell for a second straight month in July, dropping to 1.4 percent. That's below the Swedish central bank's inflation target of 2 percent.

Canadian consumer prices unexpectedly fell in June, cutting the annual inflation rate to 2.5 percent. The Bank of Canada tries to keep inflation close to 2 percent.