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Financial Services Innovation Lab, Georgia Tech 19

They also noted that even with this additional firming the risks were still weighted mainly in the direction of rising inflationary pressures.

In the simplest version of his model, Bill assumed that the central bank could choose to specify its monetary policy actions in terms of a particular level of a monetary aggregate or a particular value of a short-term nominal interest rate.

Measures of inflation compensation were little changed on net.

A second set of circumstances in which deflation or very low inflation may pose significant problems is potentially more relevant to the current U.S. economy.

Such a jump could raise core inflation temporarily if it is passed through to other prices or if it contributes to increasing inflation expectations.

The shifting balance of domestic demand and potential supply in each country means that policies affecting domestic demand will need to be re-calibrated to preserve price stability and keep economies operating at high levels of reserve utilization.

But even this relation--between the unemployment rate and the concept of economic slack--is not necessarily constant, and thus a given unemployment rate may not indicate the same level of slack at two separate times.

Indeed, such hearings used to be a regular feature in the weeks leading up to semiannual monetary policy hearings.

the recent increase in crude oil and gasoline prices would push up inflation temporarily.

Participants marked up their inflation projections, as they assessed that supply constraints in product and labor markets were larger and likely to be longer lasting than previously anticipated.

Residential MBS yields and residential mortgage interest rates declined, on net, over the intermeeting period to historically low levels, but their spreads to yields on long-term Treasury securities increased.

The Federal Open Market Committee seeks monetary and financial conditions that will foster price stability and promote sustainable growth in output.

The Committee reiterated, however, that purchases were not on a preset course, and that its decisions about the pace of purchases would remain contingent on its outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases.

In their discussion of monetary policy for the period ahead, Committee members generally agreed that their overall assessments of the economic outlook were little changed since their previous meeting.

The Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and expects it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee's assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.

You can get to 20, if you wanted to, easily, but labor force participation, the unemployment rate, different age groups of—you know, prime-age labor force participation, in particular, gets a lot of focus, the JOLTS data get a lot of focus.

We have continued to provide guidance, the same guidance that we have for some time, that says the Committee “anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.” I know that’s a mouthful, but it says, in effect, that the Committee believes that the economic conditions that have made recovery difficult, we’re getting beyond them.

A number of business contacts indicated that they were passing on at least a portion of these higher costs to their customers or that they planned to try to do so later this year; however, contacts were uncertain about the extent to which they could raise prices, given current market conditions and the cautious attitudes toward spending still held by households and businesses.

For the present, however, inflation remained subdued, and it was likely to remain relatively low for some time in light of the weakness in commodity and other import prices and the tendency for low current inflation to hold down expected price increases.

In May, there was a notable rebound in employment and decline in unemployment, and these developments are certainly welcome.

With regard to the consensus in favor of moving from an assessment of risks weighted toward rising inflation to one that was weighted toward economic weakness, with no intermediate issuance of a balanced risks assessment, some members observed that such a change was likely to be viewed as a relatively rapid shift by some observers.

If the public expects that inflation will remain low and stable over time, then, absent major shocks, it likely will.

Since June, however, inflation fears have receded, and some financial-market participants have become less optimistic about the economy's near-term growth prospects.

While the absence of increasing price inflation was a welcome development, members were concerned that the break with historical patterns might not persist.

Consumer spending was projected to increase at a rate generally in line with the anticipated rise in disposable income; the favorable effects on household wealth of the advance that had occurred in stock prices and the ample availability of credit for most borrowers were expected to balance the damping effects of continuing consumer concerns about the adequacy of their savings, the security of their jobs, and the extent of their debt burdens.

Equity prices have recently increased considerably, pushing the forward price-earnings ratio further above its historical median (slide).

participants generally expected no more than moderate growth in consumer spending over the near term.

Total nonfarm payroll employment rose solidly in July and August, with strong gains in private-sector jobs and declines in government employment.

A second economic rationale that is often advanced for the development of cities and that seems applicable to the Sioux Falls experience is that of labor market pooling--the ability of an industry to take advantage of a labor force possessing a specific set of skills, thereby raising productivity compared with competing areas with a more dispersed set of skills.

In addition, some policymakers observed that the timing and magnitude of future policy adjustments would ultimately be determined by the Committee's interpretation of the incoming data on the economy and prices rather than by its current expectation of those developments.

As of this month, the maximum monthly reduction in the balance sheet will be nearly double the level of the previous cycle.10 Together, the increase in the policy rate and the reduction in the balance sheet should help bring demand into alignment with supply.

The shift in the stance of monetary policy that we undertook in 2019 was, I believe, well timed and has been providing support to the economy and helping to keep the U.S. outlook on track.

Conversely, perhaps the transitory factors boosting productivity will recede more sharply than most observers anticipate, and the output gap will close more rapidly.

The September FOMC meeting was the first since the Committee approved in August our new Statement on Longer-Run Goals and Monetary Policy Strategy and adopted a new policy framework.3 The changes we made in our September FOMC statement bring our policy guidance in line with this new framework.

More specifically, we observed financial-market developments over the period beginning fifteen minutes before and ending forty-five minutes after each policy decision became known to the public.4 The advantage of restricting the analysis to a short period spanning the Committee's decision is that the changes in yields or asset prices occurring within that narrow window are more likely to reflect the impact of the decision, as opposed to the arrival of other information about the economy.

Treasury yields rose sharply on its release as market participants traced out the report's presumed implications for monetary policy.

Members expected to maintain an accommodative stance of monetary policy until those outcomes were achieved.

Experienced loan officers who are well acquainted with their markets can channel funds into the loans that are most likely to create wealth and growth in the local economy.

year-over-year consumer inflation remained at a very low level.

The pickup in demand had yet to materially narrow currently wide margins of idle labor and other resources, and these margins along with the uncertainties that still surrounded current forecasts of robust economic growth suggested that an accommodative monetary policy might remain desirable for a considerable period of time.

Implications for Monetary Policy The period from 1950 through the early 1980s provides two important lessons for managing the risks and uncertainties we face today.

Of course, many other factors also influence inflation, and some of these provide other possible explanations for the recent changes in inflation dynamics.

This automatically pushes up domestic interest rates to support the currency.

Labor markets appeared to be stabilizing as private nonfarm payrolls grew in September for the first time since January, and employment losses in July and August turned out to be smaller than data initially had indicated.

Martin Baily and Robert Lawrence (2004) present a much more thorough analysis of this issue and come to a similar conclusion.4 To investigate further the relationship between restructuring and labor productivity, we compared the performance of industry employment to the performance of industry productivity for the period from 2000 to 2002 (chart 5).

Consumer prices jumped in October, as hurricane damage contributed to higher prices for food and energy.

In the Committee's discussion of monetary policy for the intermeeting period, nearly all members favored keeping the target federal funds rate at 5-1/4 percent at this meeting.

Further out, TIPS-based inflation compensation 5 to 10 years ahead edged down slightly on net.

From a policy perspective, a difficulty with all these measures is that they reflect expectations of headline inflation rather than the core inflation measures usually emphasized in the monetary policy context.

First, there is a tug of war between the continued exceptional momentum in private domestic demand and the external drag from the Asian crisis.

First, tightening will in all likelihood occur in the context of a more firmly established economic recovery in the United States so that any adverse effects on EME financial conditions should be buffered by the beneficial effects of higher external demand.

Over the long run, real labor compensation tends to track labor productivity.

Concepts associated with deflation such as liquidity traps and the zero bound on nominal interest rates had, for practical purposes, disappeared from economic thought.

Some Reasons for the Decline in Far-Forward Rates Why have the far-forward rates implied by the term structure of interest rates declined in recent years?

Against the background of its long-run goals of price stability and sustainable economic growth and of the information currently available, the Committee believes that the risks continue to be weighted mainly toward conditions that may generate economic weakness in the foreseeable future.

In light of the economic outlook, almost all members agreed to indicate that the Committee expects to maintain a highly accommodative stance for monetary policy and currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014, longer than had been indicated in recent FOMC statements.

The Role of Government Policy You will have noted that I have not mentioned the role of government policy in creating a higher rate of trend productivity growth.

While the current episode has not yet concluded, it appears that, responding vigorously in a relatively flexible economy to the aftermath of bubbles, as traumatic as that may be, is less inhibiting to long-term growth than chronic high-inflation monetary policy.

The key to explaining why price stability promotes stability in both output and employment is the realization that, when inflation itself is well-controlled, then the public's expectations of inflation will also be low and stable.

Some contacts indicated that while input costs were higher, it appeared that the pass-through of these higher costs to consumer prices was limited.

So, what are the implications for monetary policy?

PCE price inflation was forecast to still be well above 2 percent at the end of this year.

Without a reduction of aggregate demand growth, inflation would rise.

With home prices depressed, housing construction was quite subdued and seen as likely to remain so, while investment in nonresidential structures remained low.

Several participants observed that the trimmed mean measure of PCE price inflation constructed by the Federal Reserve Bank of Dallas had stayed near 2 percent recently, underscoring the view that the recent low readings on inflation will prove transitory.

For example, for 2003 as a whole, growth in both the monetary base and M2 should be about equal to growth in nominal GDP.

In the 1988-90 period, the behavior of crude oil prices, unemployment, and the exchange rate were not especially surprising or anomalous.

Inflation, in fact, is under control, and starting to come down.

It is my pleasure to meet virtually with you today.1 I look forward to our conversation, but first, please allow me to offer a few remarks on the economic outlook, the Federal Reserve's monetary policy, and our new monetary policy framework.

One participant, however, objected that purchases of MBS, when compared to purchases of longer-term Treasury securities, would likely result in higher interest rates for many borrowers in other sectors.

We can best promote a progressive credit climate by maintaining an environment of low inflation.

Participants also observed that crude oil prices fell over the intermeeting period and other commodity prices also moderated, developments that were likely to damp headline inflation at the consumer level going forward.

When we reach maximum employment, when we reach a state where labor market conditions are at maximum employment in the Committee’s judgment, it’s very possible that the inflation test will already be met.

The deceleration seemed to reflect primarily an unwinding of heightened demand for the relative safety and liquidity of money market mutual funds that had boosted M2 in prior months.

A number of participants noted that continued high unemployment, particularly with large numbers of workers suffering very long spells of unemployment, would lead to an erosion of workers' skills that would have adverse consequences for those workers and for the economy's potential level of output in the longer term.

Market-based measures of inflation compensation have moved up but remain low; most survey-based measures of longer-term inflation expectations are little changed, on balance, in recent months.

First, the projected rates of productivity gains and potential output growth over the medium term were trimmed.

But again, in terms of terminology, I guess I would reject that term for the Federal Reserve because we are going to be evenhanded in treating the price stability and maximum employment parts of our mandate on a level footing.

However, other participants observed that measures of longer-term inflation compensation derived from financial instruments had remained stable of late, and that survey-based measures of longer-term inflation expectations also had not changed appreciably, on net, in recent months.

The nominal deficit on U. S. trade in goods and services widened substantially in July, reflecting both a decline in exports and a rise in imports.

As stock prices soared in the 1990s, the share of equity holdings in household portfolios surpassed the share of owner-occupied housing.

White-collar, high-skilled employment increased at a much faster rate than employment in the other categories in nearly all cases in the G-7 countries over 1979-95.

The first round of the three-month U. S. dollar auctions that major foreign central banks announced on September 15 was held in October; demand was quite limited, and only the European Central Bank (ECB) drew on its swap line with the Federal Reserve.

how long before it becomes a factor driving inflation?

A higher rate of technical change that raises the productivity and hence the profitability of capital should elevate the value of equities.

Independence and the Federal Reserve System The Federal Reserve, created in 1913, was established as an independent central bank--although, at the time, it was given no clear concept of its role in the conduct of monetary policy.

However, the fact that most other industrial countries did not experience the same increase in productivity growth as the United States during that period, even as they became more open to trade, suggests that the relationship between productivity and trade may be complex.

Businesses added a bit to their inventory positions after an extended period of sizable declines, but final sales changed little: business capital spending weakened somewhat further while growth in consumer spending, residential housing expenditures, and government outlays slowed.

I presented these estimates in my testimony to emphasize the continuing importance the profession attaches to NAIRU, the central tendency of current NAIRU estimates, and the absence of significant upward adjustments to estimates of trend growth.

With energy prices having turned down, overall consumer price inflation had eased slightly in recent months,

Several participants stated that such risks should not inhibit the Committee from pursuing its mandated objectives for inflation and employment.

The events of the last two years come on top of a huge expansion of global trade, competition and productive capacity--all of which have given American businesses less control over prices in the face of rising costs and benefited American consumers through low prices.

Some participants judged that a less accommodative future stance of policy would likely be warranted and that the Committee should convey a strong commitment to address elevated inflation pressures.

On the upside, recent fiscal policy changes could lead to a greater expansion in economic activity over the next few years than the staff projected.

As you said, falling oil prices pull down inflation.

Holiday shopping reportedly was relatively solid, and, reflecting the improvement in the housing market, demand for home furnishings and construction materials was up.

Some participants noted that additional asset purchases could be used to provide more accommodation by lowering longer-term interest rates.

The demand for commercial paper declined as prime money market mutual funds experienced large net outflows after the net asset value of one such fund fell below $1 per share.

But monetary policy has little ability to affect inflation this year.

Unfortunately, I suspect that this call would often come so late in the day that, given the lags in the monetary transmission mechanism and uncertainty about the duration of bubbles, raising interest rates might actually risk exacerbating instability.