I would like to focus on a fundamental change that has taken place globally since I first spoke {at the Cato Institute} roughly twenty years ago. In the United States and in virtually every country around the world, inflation has declined, and in most countries dramatically so. In addition, the volatility of inflation and expectations of future inflation have also fallen significantly. I will call these changes experienced around the globe the conquest of worldwide inflation.

Friedrich Hayek had long ago advocated permitting greater competition among currencies, arguing that there would be a race to the top rather than a race to the bottom.  Regardless of what one might think of Hayek's policy proposals, technological change in a globalized and competitive marketplace, I believe, has increased competition among currencies issued by central banks.

...

In a nutshell, I believe that the factors of globalization, deregulation, and financial innovation, arising partly in response to episodes of high inflation, have effectively eroded the central bank monopoly on the provision of monetary services and have enhanced global competition among currencies. These changes have, in turn, altered the incentives for central banks to behave badly and for finance ministries to use central banks as "piggy banks" to finance their fiscal policies.

Taking all of the factors on growth and inflation into account, my current assessment is that the risk of inflation remaining too high is greater than the risk of growth being too low. Thus, some additional firming of policy may yet be necessary to bring inflation back to a range consistent with price stability in a reasonable period of time. But that decision will depend on how the incoming data affect the outlook.

The inflation outlook is a slightly different story.  I do not believe that inflation will accelerate further.  In fact, I expect some slowing in the rate of inflation as recent energy price changes and the effects of monetary policy actions work through the economy.  But some risk remains that inflation will not recede into a range consistent with the FOMC's price stability objective.  In that event, it is possible that some additional monetary policy restraint would be required.

This leads me to my first principle: price stability is and should be the primary focus of monetary policy. I think almost every economist would agree that sustained inflation is ultimately a monetary phenomenon, and, of course, the Fed is the monetary authority in the United States.

I am not comfortable that we have got a downward trend that I can be that confident in at the present. And I am worried about the danger of inflation staying, remaining, about where it's been.

The question is how are we going to bring about restoring price stability.  My colleagues' views differed from mine. I thought that we needed another policy move to ensure that we had a high enough probability of getting back (to lower inflation levels).

Growth doesn't slow inflation, central banks slow inflation. It has to do with what really drives inflation dynamics.

As I sit at the FOMC table, I continue to fret more about inflation than I do about growth. While I am well aware of the risks to economic growth, the history of inverted yield curves, and the ever present possibility of exogenous shocks in a politically hazardous world, the “balance of risk,” in my book, is still tilted to the inflation side of the equation.

The FOMC left its monetary target—the fed funds rate—unchanged last week at 5.25 percent. I accept that decision. While the inflation risk I have just elucidated is very much on my mind, it is my considered judgment that the recent tempering of U.S. economic growth to a more sustainable rate, combined with the lagged effects of our 17 prior quarter-point rate increases, should act to lower the inflation rate over time. However, if this proves not to be the case, appropriate action will have to be taken.

In the monetary policy context, research suggests that inflation-forecasting models have not worked very well in recent years. The reason, I believe, is that the Federal Reserve has been pretty successful in exploiting all available public information in its monetary policy decisions aimed at maintaining low and stable inflation.

The practical import of this implication for central bank communication policy is that communications should focus on policy fundamentals of goals and the model of how the economy works. The economy works best when policymakers disclose the systematic part of policy and minimize the random part. That is, policy should not itself be a source of random disturbance. In the extreme, austere version of the model I am now discussing, central bank communication about policy responses to individual shocks is unnecessary and more likely to create market disturbances than enlightenment.

I have emphasized the strength of business construction, which is going gangbusters in many parts of the country.  The economy is really not fragile.  It's robust.

In informal remarks to reporters after his speech.

The inflation outlook remains highly uncertain, and until we actually see inflation begin to slow down, I will be focused on the notable upside risks in the outlook...

The bottom line is this.  With inflation too high, policy must have a bias toward further firming.  However, our past actions have already put a lot of firming in the pipeline. With the lags in policy we haven't yet seen the full effect of our past actions. These will unfold gradually over time. By pausing, we allowed ourselves more time to observe the data and more time to gauge how much, if any, additional firming is needed to pursue our dual mandate.

In response to the question:  "Are you worried that the Fed could lose its inflation-fighting credibility?"

I'm very concerned.  And it's not a big black or white thing, losing our credibility.  I think that everyone believes we wouldn't let the '70s happen again.  But an erosion from 1.5%, to let inflation, core inflation, drift from 1.5% up to 3%, I'm not sure people are convinced we wouldn't let that happen, and I think we ought to take action to prevent that notion from becoming lodged in peoples' minds.

A lot of our contacts within the district since the beginning of the year, since the spring, have been reporting that they're increasingly able to pass along cost increases, energy cost increases in the form of high prices — something we weren't seeing a year ago.

The longer we go without signs of a deceleration in core inflation, the more we risk inflation becoming entrenched at this higher level. And if that happens, if people come to expect it to continue at two and three quarters, then it would take substantially more action on our part to bring it down to where we want to see it over time.

So that's the risk that I see, of inflation becoming entrenched at or above where it is now, and we're already seeing signs that that might be happening, because of the acceleration of compensation costs ...