Challenges Around the Federal Reserve's Monetary Policy Framework and Its Implementation

The 2020 revisions to the Federal Reserve's monetary policy framework included a shift in the Fed's policy focus to shortfalls (rather than deviations) from maximum employment and a commitment to "flexible average inflation targeting." The new framework, and the associated guidance and asset purchases with which it was implemented, were tested by the surge in inflation in 2021 and 2022. We consider the lessons learned from this experience. We conclude that the changes to the framework were too focused on the experience following the financial crisis and hence were not robust in the face of unexpected changes in economic circumstances. We also argue that the Fed made mistakes with the calibration and communication of the tools used to implement the framework - the forward guidance on the policy rate and the asset purchase program. We recommend a broad framework that would be appropriate in a wide range of policy environments, with the specific policy approach to be taken in any given circumstance to be communicated through forward guidance and asset purchase announcements. We suggest ways in which the Fed could implement these tools with better calibration and communication, in order to avoid having its policy commitments exacerbate costly economic outcomes.