2013 Annual Report Why Inflation Is Very Low, and Why It Matters

One of the Federal Reserve?s mandates is maintaining stable prices. During my more than three decades in the Federal Reserve System, the focus has been primarily on avoiding high and variable inflation, and over most of that period, the Federal Reserve has successfully fulfilled its objective to keep inflation in check. More recently, however, our attention has turned to a less familiar concern?persistently low inflation. While high inflation has well-known costs for economic performance, the problems posed by persistently low inflation can be equally harmful. As its title promises, this year?s annual report essay examines why inflation is low, and why it matters. First, our researchers explore the relatively new phenomenon of low inflation. High inflation rates have been the focus of attention for the last several decades. It has been only in the aftermath of the most recent financial crisis that the Federal Reserve has had to look more carefully at how to guard against both overshooting and undershooting our inflation objective. Our researchers explain why the US economy is currently experiencing a bout of sustained low inflation. Using a range of tools, our researchers have identified two main sources: slow economic growth, which has put very little upward pressure on prices and wages; and special, temporary forces that have held back some prices, such as the deceleration of medical care costs.