Fed's Kohn Warns That Rising Oil Prices Could Impact Inflation Outlook

Federal Reserve Governor Donald Kohn spoke Friday along with Fed officials Richard Fisher and Janet Yellen at the International Symposium of the Banque de France in Paris. The conference focused on globalization and its impact on inflation, trade, and monetary policy.
Kohn focused on monetary policy and the belief by some that central banks should look at a more coordinated approach to monetary policy as globalization increases interdependence in a global economy.
“Central banks should continue to conduct monetary policy in the same forward-looking manner as they have for the past twenty years or so, adjusting policy rates in response to current and expected future movements in output and inflation, taking account of the lags in monetary policy,” he said.
He discussed the soaring cost of oil and other commodities and their relationship with inflation. Currently, the Federal Reserve is forecasting a stabilization of rapidly rising oil prices, which allows them to forecast moderating inflation. However, Kohn noted that the forecast could be very different if oil prices continue to rise.
“If we were to project a continued significant rise in energy prices over the medium run, we would need to factor that expectation into the outlook for overall inflation,” he said. “Doing so could have important implications for the stance of monetary policy--all the more so if we expected rising energy costs to lead to higher inflation expectations and elevated wage gains.”
Though they still believe in a “leveling out in oil prices,” Kohn recognized that climbing oil prices were not something the Federal Reserve had been expecting. “Surprised as we have been by the rapid, extended run-up in energy costs over the past few years, one would think that the price of a storable commodity such as oil should already embody expectations of continued rapid growth in the developing economies,” he said. Recent spikes in energy prices have added a reason for pause in the Fed's outlook, Kohn suggested.
“The large run-up in spot and futures prices in recent weeks indicates that market participants are still revising their views of long-term demand-supply conditions,” he said. “In these circumstances, policymakers must be mindful of the uncertainties surrounding the outlook for commodity prices and the risk that past or future increases in these goods could yet embed themselves in higher long-run inflation expectations and a persistently faster rate of overall price increases.”
Kohn stated that it is difficult for different central banks to agree on a common policy, adding that perhaps the best and safest bet is for individual countries to focus on their own mandates.“Policies agreed to under one set of circumstances may no longer be appropriate when circumstances change, as they inevitably will,” Kohn told the panel. “Monetary policy should be able to adjust quickly to such changes; agreements that must be renegotiated can tie policymakers' hands.”
His comments were a contrast with the emphasis of some other Fed officials, who encouraged taking into account other central banks when making Federal Reserve policy decisions. Kohn acknowledged that there are some circumstances in which working with other central banks to determine monetary policy would be beneficial, but added that such instances would likely be few and far between.
“Ultimately, global stability depends on good performance in individual countries, and the record of recent decades suggests that, in general, good performance is most readily achieved when central banks focus on their own mandates for domestic price stability and growth,” Kohn said.