WASHINGTON (Reuters) -The Federal Reserve's "metric of success" on inflation is keeping expectations about future price increases anchored at 2%, Fed Vice Chair Richard Clarida said on Wednesday, and the central bank will respond if inflation expectations start to rise.
"Any monetary policy that we are going to bless is never going to eliminate all inflation volatility. Inflation itself is always going to move around. The metric of success is longer run inflation expectations well anchored," at the Fed's 2% target, Clarida said.
If a new Fed index of expectations were to "drift up persistently...that would indicate to me that policy would need to be adjusted."
Clarida, in remarks at a Manhattan Institute event, detailed what he will be watching as the Fed tries to discern whether an expected jump in prices in coming months is a one-off impact from the pandemic or the start of an inflationary trend that might force the Fed to tighten monetary policy sooner than expected.
He said, for example, that if wages begin to grow consistently faster than productivity, with evidence that those higher business costs are passed to consumers, that could set the stage for a "sustained increase in inflation."
"We are going to be very attentive to what we are seeing in the nexus between wages, productivity, prices and markups," Clarida said.
He was asked specifically what might happen if inflation accelerates even if parts of the economy remain hampered by the pandemic, with large numbers of people unemployed in particular sectors but the economy as a whole doing well.
"That is a risk case," Clarida said, though not the baseline projection. "That is something that our new framework would call for us to think about a potential policy response."
A new Fed approach to monetary policy puts a premium on generating as many jobs as possible, as long as inflation remains controlled.
The inflation expectations index Clarida says he is watching combines several market and survey measures into a single view of how households and businesses expect prices to behave.
It most recently stood at 1.96%.