Central banks are increasingly altering the perception of their reaction functions to allow tighter
(or less easy) monetary policy. At the ECB, discussion of so-called “supercore” inflation has
re-emerged. This consists of the components of the HICP basket that have a “statistically
significant link with the output gap” (ECB’s words). Our proxy for this measure, top-left chart, is
notably higher than core HICP. That the ECB is re-emphasising this is a sign it wants to impress
on the market that the direction of travel for rates is higher – not lower – in the coming years.

Similarly, at the Fed there has been increasing discussion from FOMC members (the latest
being Rosengren) about raising the inflation target; changing it to a range (eg 1.5% to 3%); or
lengthening the time taken to meet the target. This is a fig leaf to allow tighter policy in the name
of financial stability despite the ‘low’ level of inflation based on eg the Fed’s PCE measure. The
top-right chart shows the Fed NY’s recently introduced Underlying Inflation Gauge, which is
clearly making the case that inflation is biased higher. The BoJ is emphasising strong growth as
cover for reducing its asset purchases, which you can understand when you look at the bottom-left
chart. The BoE is the only major central bank that needs no fig leaf as inflation is running at
3% and is not expected to fall considerably any time soon (bottom-right chart).

(Click on image to enlarge.)

Source: Bloomberg, Macrobond and Variant Perception