why would the fomc want to use price level targeting? there are two reasons – and they are closely related to the concerns about low inflation that i raised earlier. the first reason is that price level targeting makes long - term contracts safer for borrowers and lenders. for example, suppose a family took out a 30 - year mortgage in 2012, under the expectation that the fomc would deliver on its commitment to keep inflation at 2 percent. because inflation has been so low over the past two years, the borrower ’ s current repayments are now surprisingly expensive in real terms. ( by “ real terms, ” i mean that the borrower has to give up a surprising amount of goods and services to be able to afford the repayments. ) the fomc can ’ t solve that problem today, of course. but if the fomc uses inflation targeting, the borrower ’ s repayments are likely to remain surprisingly expensive in real terms even in 2042, 30 years after taking out the mortgage. in contrast, if the fomc uses price level targeting, the borrower ’ s repayments in 2042 are likely to be close, in real terms, to what the borrower expected when originally taking on the loan. the second reason that the fomc might want to use price level targeting is that it would serve as an automatic stabilizer for the economy. as i described earlier, when demand is low, inflation tends to be below target. with price level targeting, the fomc makes up for low inflation by using monetary policy to stimulate higher future inflation and higher future demand. but this prospect of higher future demand is an incentive for businesses to hire and invest more now. thus, with price level targeting, the fomc ’ s anticipated future policy choices automatically offset current adverse shocks. 1 i ’ ve framed the decision about inflation targeting versus price level targeting in terms of its impact on the fomc ’ s future policy decisions. as i ’ ve just talked through, though, these future decisions have the potential to affect near - term macroeconomic outcomes. in particular, if the fomc were to decide today to follow price level targeting, then businesses would anticipate more stimulative future monetary policy and, consequently, higher future demand. that expectation of higher demand would provide an additional incentive for them to hire and invest today. in this way, the fomc ’ s decision about price level targeting – a decision

is undershooting its price stability objective and is expected to continue to do so. but we should all keep in mind that this outcome – and especially the forecast for continued undershooting – typically means that the fomc is also underperforming on its other objective of promoting maximum employment. bis central bankers ’ speeches should the fomc make up for past inflation misses? i ’ ve described how i expect that the pce inflation rate will run below the fomc ’ s 2 percent target for several years – possibly until 2018. let ’ s assume that forecast turns out to be right. this outcome raises a key policy question : how should the fomc ’ s inflation goals in the years following 2018 be influenced by the undershooting of the inflation target in the preceding years? in addressing this question, i ’ ll compare two possible approaches : the standard approach of inflation targeting and the more novel approach of price level targeting. let me note before i begin that i won ’ t take a stand today on which of those approaches is better. my goal is simply to initiate a policy conversation about future – indeed, possibly far - off future – monetary policy choices. the fomc announced its 2 percent inflation target in january 2012. since that date, inflation has averaged about 1. 4 percent per year. as i noted earlier, i anticipate that inflation will rise only slowly. as you know, the inflation rate is the growth rate of the price level – that is, how much people pay for a typical bundle of goods and services. hence, the downside misses with respect to inflation cumulate into a significantly lower price level. if my inflation forecast is right, the price level in 2018 will be about 2. 2 percent below what it would have been had the fomc hit its inflation target over the preceding six years. how should the fomc respond to this shortfall in the price level? if the fomc simply targets a 2 percent inflation rate after 2018, then the price level will be permanently 2. 2 percent lower than was expected in 2012. this approach to policy – which is the standard one followed by most leading central banks around the world – is called inflation targeting. but there is an alternative : the fomc could target a slightly higher inflation rate for a few years after 2018 in order to make up for the shortfall in the price level. this latter policy approach is often termed price level targeting. bis central bankers ’ speeches