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If an expected jump in inflation this year does not reverse going into 2022 the Fed “will have to take that into account” in setting policy, Federal Reserve vice-chair Richard Clarida said Friday.

Strong demand, possible supply bottlenecks, and a rebound from weak inflation a year ago are expected to cause prices to surge in coming months above the Fed’s 2-per-cent inflation target.

“But we expect in our baseline most of that to be transitory and for inflation to return later this year to around 2 per cent,” Mr. Clarida said on Bloomberg. “There are risks on both sides. In the risk case in which inflation were to begin to move above a level consistent with price stability, we would have the tools to address that and I am confident that we would.”

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“If inflation at the end of the year has not declined from where it is in the middle of the year that will be some good evidence,” that the Fed’s current outlook is wrong, Mr. Clarida said.

“We would expect those [increases] to be transitory and as the year progresses and as we go into next year, if they are not then we will have to take that into account,” he said.

Mr. Clarida’s remarks, while acknowledging the Fed’s risk in keeping interest rates low while prices rise, also sketch out a narrative for why the Fed feels safe doing so.

The coming round of price increases doesn’t, in the current view, actually meet the Fed’s goal of generating inflation above 2 per cent because it won’t persist long enough. While the most recent Fed projections see inflation reaching 2.4 per cent this year, well above target, it falls back to 2 per cent next year.

It is only in 2023 that inflation moves above 2 per cent, to 2.1 per cent, for reasons the Fed regards as more durable, such as the economy operating at or above capacity.

In the median Fed view, interest rates might rise some time after that.

The pandemic was “a very unusual shock,” Mr. Clarida said. Even with prices rising, “there is still a hole in the labour market” that needs to be fixed.

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“We will begin to get a better sense as we go through this calendar year how rapid that progress is and how it is showing up in other indicators.”

On another issue Mr. Clarida said that recent comments by System Open Market Account manager Lorie Logan about adjustments to the Fed’s bond purchases were simply describing how current Fed policy is implemented, not announcing a change.

The Fed’s monthly bond purchases attempt to reflect the U.S. Treasury’s issuance of different types of securities, so when that changes the Fed has to adjust as well. It was not, he said, an effort to “twist” the purchases to influence particular interest rates.

“As the Treasury changes its issuance patterns of course we would adapt,” Mr. Clarida said. “I would not characterize it as operation twist.”

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