A puzzle for central bankers: Solid growth but low inflation

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Against a backdrop of strengthening growth but chronically low inflation, Federal Reserve Chair Janet Yellen and other central bankers are taking their measure of the global economy at their annual conference in the shadow of Wyoming's Grand Teton Mountains.

With the prospect of new leadership at the Fed within months, investors will be listening for any hint of shifting interest rate plans from the policymakers. The most watched events will come Friday, when Yellen and Mario Draghi, head of the European Central Bank, will each address the conference.

Though a surprise announcement can't be ruled out, most analysts expect no major policy changes to be announced by either leader. Still, central bankers going back to Alan Greenspan's appearances in the 1980's have sometimes used the annual conference to send messages to the financial markets.

Yellen's predecessor, Ben Bernanke, signaled a new round of Fed bond purchases in 2010 to try to invigorate a weak U.S. recovery. And, last year, Yellen let markets know that more rate hikes were coming. The Jackson Hole conference, sponsored by the Federal Reserve Bank of Kansas City, is in its 41st year.

The conference occurs as the Fed is in the midst of gradually and modestly raising its benchmark rate to reflect a strengthened U.S. economy. By contrast, the ECB is still buying bonds to keep keeping rates at ultra-low levels but may be preparing to slowly taper its purchases next year.

The official theme of this year's conference — "Fostering a Dynamic Global Economy" — is certainly timely. Though the global economy appears more stable than at any other point in the past decade, growth since the 2008-2009 recession has remained sluggish in the United States and most other industrial countries. One consequence is that discontent has grown among groups that feel left behind, having helped fuel Donald Trump's election victory and Britain's vote to exit the European Union.

The stated topic of Yellen's speech Friday will be financial stability, which may provide a platform to address concerns that the Fed's ultra-low rates have fueled asset bubbles in the stock market. Many Fed officials, including Yellen, have said in the past that they do not think asset prices have reached dangerous heights.

The Fed has raised its key policy rate twice this year, in March and June. It's still signaling that it plans to raise rates a third time before year's end and to begin paring its bond portfolio—a move that could increase rates on mortgages and some other loans.

Many analysts say they think the Fed will keep raising rates at only a very gradual pace until it's confident that a recent puzzling slowdown in inflation reflects temporary factors and will reverse course as low unemployment starts boosting wages and spending. Inflation has been running below the Fed's 2 percent target for five years. Chronically low inflation can depress economic growth because consumers typically delay purchases when they think prices will stay the same or even decline.

On Friday, Yellen could offer guidance on what the Fed might announce at its next meeting, Sept. 19-20, about its key short-term rate or about the expected start of its parings of its bond portfolio.

Investors will also be listening to what message Draghi—the head of the central bank for the 19 nations that use the euro currency—may send. Three years ago, Draghi signaled in a speech at Jackson Hole that the ECB was preparing to begin buying bonds to keep borrowing rates low and support an anemic European recovery. If not now, then sometime soon, Draghi is expected to signal that the ECB is preparing to start reducing those purchases.

Draghi might choose to wait until the ECB meets next month to communicate any policy shift, in part out of concern that the euro's value has already risen in anticipation of an ECB move and thereby made European exports costlier. The euro's drop has also lowered import prices, further depressing inflation and complicating the ECB's mission. In the 12 months ending in July, annual inflation in the eurozone was 1.3 percent, well below the ECB's target of just below 2 percent.

Such subpar inflation, along with lackluster growth, has hampered policymakers in the United States, Europe and Japan throughout the recovery from the 2008 financial crisis.

"It is a problem in the United Kingdom, in Germany, in Japan," said Diane Swonk, chief economist at DS Economics. "Nobody knows where inflation is going."

Besides assessing possible asset bubbles and undesirably low inflation, another discussion point will likely emerge at this year's conference — at least on the sidelines: Whether Yellen, the first woman to lead the U.S. central bank, will be attending her last Jackson Hole conference as Fed chair.

Yellen's four-year term as chair will end in February, and Trump has made clear he is considering replacing her, though he hasn't ruled out asking her to remain. One candidate the president has mentioned is Gary Cohn, a former Goldman Sachs senior executive who leads Trump's National Economic Council.

In a survey released this week of 184 economists who belong to the National Association of Business Economists, only 17 percent said they expected Yellen to be re-nominated. Nearly half said they thought Trump would tap Cohn.

Not everyone is convinced that Cohn — who, unlike the three most recent Fed chairs, isn't a Ph.D. economist—even wants the job.

"Cohn is a very smart and competent businessman," said Sung Won Sohn, an economics professor at California State University-Channel Islands. "But does he really want to go into the cultural environment that is the Federal Reserve?"

Fed Up, a group representing community activists, labor unions and liberal policy groups, plans to demonstrate here in favor of having Yellen stay as chair. The group argues that Yellen's low-rate policies have helped the job market recover and provided job opportunities for all groups, including minorities. Fed Up says it's wary of critics who have said Yellen should have been more aggressive in raising rates to ensure that future inflation doesn't accelerate to worrisome levels.

"Those of us who can't afford another crash are coming to Jackson Hole to shape the direction of the Fed," said Shawn Sebastian, co-chair of the Fed Up campaign. "The economy is in real danger, and low-income workers, particularly people of color, are the ones who will face the consequences."

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