Federal Reserve chairman Jay Powell has unveiled the biggest policy overhaul for nearly a decade at the US central bank, as he unleashes yet more firepower to fight off the coronavirus crisis.
The Fed will seek to stoke up economic growth even if this means price rises spike higher than its inflation target, in a major break with previous guidance.
Policymakers have committed to achieving 2pc inflation since 2012, but will now tolerate overshoots after switching to an “average” target - allowing the economy to run faster and helping to prop up millions of jobs.
The move is the clearest signal yet to financial markets that interest rates will be stuck near zero for years to come, further fuelling a share boom that pushed the S&P 500 to new highs in the wake of the chairman’s speech. It could spark calls for the Bank of England to follow suit.
The Fed has already cut interest rates close to zero and embarked on a $2 trillion money printing programme to counter the economic plunge triggered by Covid-19.
But Mr Powell’s online comments at the Jackson Hole symposium that “appropriate monetary policy will likely aim to achieve inflation moderately above 2pc for some time” were seized on by investors.
Nigel Green, chief executive of fund manager deVere Group, said: “This will add fuel to global equities which are already on fire. In this climate, holding bonds and sitting on cash will simply not provide the returns investors seek. Against this backdrop, many more will pile further into equities.”
James Knightley, ING’s US economist, said: “The Fed’s new language gives them the flexibility to let the economy run a little hotter before contemplating raising interest rates.”
The central bank also bolstered efforts to support the US jobs recovery, with unemployment still at 10.2pc following the virus.
Mr Powell said that the Fed “would be highly focused on fostering as strong a labour market as possible for the benefit of all Americans”.
Under its previous mandate, the Fed would raise rates if the job market showed signs of overheating and pay rises started to snowball. But Mr Powell has shifted to a more relaxed stance after record low unemployment failed to trigger inflation, while the central bank also acknowledged the benefits of a strong labour market for low-income communities.
Kathy Bostjancic, of Oxford Economics, said: “Policymakers will be more worried about elevated unemployment rates than low unemployment rates that previously stoked concern about a pick-up in inflation.
“Fed officials have been very concerned about the severe damage to the labour market and the desire to swiftly return the unemployment rate back to its pre-Covid level.”
The extent of the jobs crisis facing the US was underlined by figures showing a further million workers applied for unemployment benefits last week.
More than 27m Americans - nearly a tenth of the population - are claiming some form of benefit as the jobs recovery threatens to lose steam. The economy shrank by 9.1pc in the second quarter.
Mr Powell insisted the Fed is still committed to the 2pc goal “over time”. But some economists highlighted the lack of detail in the new target, with no explanation of how the average will be calculated or over what period.
Axel Botte, of Ostrum Asset Management, said: “The Fed will target 2pc inflation ‘over time’. ‘Over time’ is anyone’s guess at this juncture. The Fed could allow moderately above-2pc inflation for some time. What’s ‘moderately above target’?”
David Page, of AXA Investment Management, added that the Fed’s approach will spark further uncertainty over how markets perform in coming months.
The Fed’s review, delayed by the pandemic, could encourage other central banks to bolster their own policy arsenal.
The Bank of England, whose Governor Andrew Bailey is set to speak at the online symposium on Friday, is assessing the potential of tools such as negative interest rates.
The European Central Bank could also loosen its own inflation target under a policy review launched by president Christine Lagarde last year.