As I described earlier, when demand is low, inflation tends to be below target. With price level targeting, the FOMC makes up for low inflation by using monetary policy to stimulate higher future inflation and higher future demand. But this prospect of higher future demand is an incentive for businesses to hire and invest more now.
Thus, with price level targeting, the FOMC’s anticipated future policy choices automatically offset current adverse shocks. 1 I’ve framed the decision about inflation targeting versus price level targeting in terms of its impact on the FOMC’s future policy decisions. As I’ve just talked through, though, these future decisions have the potential to affect near-term macroeconomic outcomes.