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Financial Services Innovation Lab, Georgia Tech 19

The current global environment highlights the importance of having strong analytic and empirical foundations to understand financial stability considerations for monetary policy, and the research presented today will help strengthen those foundations.1 The global environment of high inflation and rising interest rates highlights the importance of paying attention to financial stability considerations for monetary policy.

Any of these factors might imply that the equilibrium rate relevant for policy returns more quickly to, or even moves above, its long-run level as fewer forces weigh on aggregate demand.

One measure of the decline in recent years of the marginal cost of additions to oil availability is the downdrift in the prices of the most distant contracts for future delivery of Light Sweet crude oil.

Still, if aggregate demand and potential aggregate supply follow the paths that I outlined earlier, the slack in resource utilization should diminish, unit labor costs should begin to move higher, and the underlying rate of inflation should stabilize.

Because his econometric analysis of the available data indicated that money demand was more stable than aggregate demand, Bill formulated a simple rule that adjusted the money growth rate in response to the observed unemployment rate.

Regarding the economic outlook, most participants agreed that economic growth was likely to remain moderate over coming quarters and then pick up gradually.

Nonetheless, the Committee judged that some inflation risks remained.

With sales contracting and inventory imbalances still substantial, the manufacturing sector continued its sharp slide, and aggregate employment plunged.

The staff's forecast for core PCE price inflation this year was revised down a little in response to recent data.

For the United States, for example, the figure highlights the long run-up and subsequent fall in asset prices before the 2001 recession.

With the restraint from fiscal policy assumed to increase next year, the staff projected that increases in real GDP would not significantly exceed the growth rate of potential output in 2013.

Ultimately inflation is determined by the policy actions of the central bank.

The Federal Reserve then sets its policy to achieve the broad objectives assigned to it, specifically, price stability and full employment.

This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments.

As its name implies, this rule does not prescribe a particular level of the federal funds rate at a given time but rather how the existing rate should change from quarter to quarter based on two gaps--the difference between inflation and its desired level as well as the difference between the unemployment rate and its longer-run normal level.20 In contrast to the other two rules, the change rule does not take a stand on the value of the longer-run neutral level of the real federal funds rate, thus avoiding a potential source of error.

On the other hand, by that metric, the, the September 16, 2020 unemployment rate would have been in the—in the 20s in, in April.

growth in the far larger part of the services economy, which has led to low unemployment, good job creation, rising wages, that’s kind of the two big pieces of it that you see.

The second is intermediate-term need for reserve expansion and contraction, arising, for example, from seasonal changes in the demand for currency and reserves.

Of the 1,700 Washington employees, roughly 250 are Ph.D. economists, the majority of whom support the Board's monetary policy responsibilities.

success was fairly uniform across both the inflation-targeting and nontargeting countries.

And the maximum level of employment that’s consistent with price stability evolves over time within a—within a business cycle and over a longer period, in part reflecting [the] evolution of the factors that affect labor supply, including those related to the pandemic.

However, in the view of at least some members, recent developments had reduced the unwelcome prospect of substantial additional disinflation.

Particularly in light of persistent low readings on inflation and from indicators of inflation expectations along with the risks to the U. S. outlook associated with global economic developments, he noted that a policy rate reduction at the current meeting would help re-center inflation and inflation expectations at levels consistent with the Committee's symmetric 2 percent inflation objective and simultaneously provide some insurance against unexpected developments that could slow U. S. economic growth.

too pessimistic on job creation and the decline in the unemployment rate.

Greater rates of productivity growth in the United States, compared with still-subdued rates abroad, have apparently engendered comparable differences in risk-adjusted expected rates of return and hence in the demand for U.S.-based investment assets.

The expansion of M2 had declined substantially since late spring, apparently in part as a result of the widening opportunity costs of holding assets in M2 stemming from higher market interest rates and possibly also from slackening growth in household incomes.

All members agreed that the statement to be released after the meeting should convey that inflation risks remained dominant and that consequently keeping policy unchanged at this meeting did not necessarily mark the end of the tightening cycle.

In any case, the real federal funds rate is now lower than prior to the easings, at the same time that the unemployment rate is lower and projected growth higher than it was prior to the easings.

Returning to monetary policy, we recognize that there has been a great deal of focus on today’s policy decision.

The July-August deficit in U. S. trade in goods and services was higher than its average in the second quarter, as further growth in imports exceeded the rise in exports.

There is no evidence to date that a strong labor market is putting excessive cost-push pressure on price inflation.

in particular, core PCE price inflation had been quite stable on a twelve-month basis for some time.

Housing demand and consumer spending firmed toward the end of the year, but capital spending remained quite weak in an environment of substantial business uncertainty and pessimism.

As a policymaker, I can assure you that any model of inflation that did not take account of these effects, and how they might or might not affect ongoing rates of inflation, would have been of little practical use to the FOMC over the past few years.

Weekly data for March, however, indicated that gasoline prices rose sharply.

A major concern that I have about the bubble-popping strategy, however, is that attempts to bring down stock prices by a significant amount using monetary policy are likely to have highly deleterious and unwanted side effects on the broader economy.

In connection with the risks associated with an early start to policy normalization, many participants observed that a premature increase in rates might damp the apparent solid recovery in real activity and labor market conditions, undermining progress toward the Committee's objectives of maximum employment and 2 percent inflation.

The staff still expected that the pace of economic activity through 2011 would be sufficient to reduce the existing margins of economic slack,

Besley, Meads and Surico's contribution is to ask whether certain characteristics of the policymakers matter for how they vote on the monetary policy committee.

Confirming that variations in growth rates of liquidity (especially unusual changes in liquidity growth that could be called excessive) systematically lead to wide swings in real asset prices requires further theoretical investigation and more empirical support.

Thus, reducing vacancies from an extremely high level to a lower (but still strong) level has a relatively limited effect on hiring and on unemployment.

Such second-round effects are likely to be quite limited as long as the rise in the relative price of energy does not lead to a rise in long-run inflation expectations, as has largely been the case in the recent period (figure 1).

At the same time, the staff viewed the risks around its outlook for the unemployment rate as roughly balanced.

Sub-par expansion over the next few quarters was expected to foster an appreciable further easing of pressures on resources and some moderation in core consumer price inflation.

Fortunately, as we make monetary policy we have the advantage of several forecasts.

We are hopeful that Europe will take additional measures and do all that’s necessary to stabilize the situation and to provide the basis for an ongoing stable structure that—in which banks and sovereigns are both stabilized, in which there’s a program for growth, and in which fiscal arrangements are clear—are made much clearer.

M2 growth dropped in the second quarter and remained modest in July, consistent with moderating growth of nominal income and rising opportunity cost.

Tax rebates, declining energy prices, and widespread discounting of retail prices were cited as positive factors in support of consumer spending on a wide range of goods and services.

However, waiting was an acceptable alternative given the favorable economic news and the persisting uncertainties surrounding the relationship of output to prices.

So let me start with the question pertaining to exchange rates.

For a variety of reasons, some emerging-market economies have resisted upward pressures on their exchange rates, even if that resistance requires buying large quantities of dollars to keep their currencies from appreciating.

The combination of a commitment to condition liftoff on the sustained achievement of our employment and inflation objectives with yield curve caps targeted at the same horizon has the potential to work well in many circumstances.

He also judged that the policy step would do little to improve near-term growth prospects, given the ongoing structural adjustments and external challenges faced by the U. S. economy.

The 5.4% unemployment rate in 1996 was the lowest annual rate since 1988 and before that since 1973.

In its March forecast, the staff's projection for real GDP growth over the medium term was somewhat higher than the one presented in January, mostly reflecting an improved outlook for economic activity abroad, a lower foreign exchange value for the dollar, and a higher projected path of equity prices.

Housing starts and the demand for new homes had declined further, house prices in many parts of the country were falling faster than they had towards the end of 2007, and inventories of unsold homes remained quite elevated.

Despite the prevalence and importance of committees in modern central banking, the role of committees in the formulation of policy has not attracted nearly as much academic attention as has the research on monetary policy rules.3 The literature on monetary policy rules stretches back to at least Adam Smith and includes important contributions from David Ricardo, Knut Wicksell, and Milton Friedman.More recently, John Taylor has moved the research agenda forward with his eponymous rule, and a large number of academic papers have been written examining the effectiveness and robustness of policy rules.4 In contrast, as noted, study of the role of committees in making monetary policy has been fairly light, notwithstanding the insightful work of Alan Blinder and others.5 Committees and rules may appear to be in opposition as approaches to policymaking.

In contrast, businesses cut production and employment substantially in recent months--likely reflecting, in part, inventory overhangs that persisted into the early part of the year--and fixed investment continued to contract.

Looking ahead, the projected slowing in the growth of final sales, including the effects of weak export markets, likely would reinforce business efforts to bring the growth of their inventories into better alignment with that of their sales, and such a development should contribute to the projected slowing in overall economic activity in coming quarters.

Although the near-term economic outlook is weak, the Committee anticipates that policy actions to stabilize financial markets and institutions, together with fiscal and monetary stimulus, will contribute to a gradual resumption of sustainable economic growth.

As a consequence of these higher real interest rates, the ratio of net worth to income for the average household is already lower than it was earlier this year.

At the same time, the staff viewed the risks around its outlook for the unemployment rate as roughly balanced.

In furtherance of these objectives, the Committee reaffirmed at its meeting in June the ranges it had established in February for growth of M2 and M3 of 1 to 5 percent and 2 to 6 percent respectively, measured from the fourth quarter of 1998 to the fourth quarter of 1999.

Just as in the earlier analysis of Ammer and Freeman, this analysis suggested that in all three countries the inflation targeting led to a drop in inflation and nominal interest rates.

Nonetheless, with fiscal policy assumed to be tighter next year than this year, the staff anticipated that real GDP growth would not materially exceed increases in potential output in 2013.

Although some members noted that a case could be made that the risks to inflation were now somewhat skewed to the upside and those to sustainable economic growth perhaps to the downside, the most likely outcome remained one of stable prices and sustainable growth, and the Committee agreed that it should retain a balanced assessment of risks conditional on appropriate policy.

If we—if we analyze inflation data and conclude that, clearly, transitory influences are holding down inflation, I do not want to say that we would respond to that.

A main reason I expect this outcome is simply the fact that the very low inflation readings during last spring's deep economic contraction will drop from the usual calculation of 12-month price changes.

For example, Ang, Piazzesi, and Wei (2003) have used modern financial theory to construct a model of the Treasury yield curve that closely links the behavior of real GDP and a few key interest rates.

Financial conditions continue to pose a downside risk to the outlook for growth.

With the economy at full employment and inflation far above target, we should signal that we are moving back to neutral at a fast pace based on the performance of the economy, and a 50-basis point hike would help do that.

I don’t really think asset prices themselves represent a significant threat to financial stability, and that’s because households are in good shape financially than they have been.

Although the aggregate balance sheet for the household sector was strong and the unemployment rate was low, consumer sentiment had deteriorated, and households were reportedly becoming more cautious in their expenditure decisions in light of uncertainty about the economic outlook and the reduction in purchasing power induced by price rises, particularly increases in the prices of essentials such as food, housing, and transportation.

So that’s in the low 20s, and that’s post the May employment report.

Accordingly, considerable caution needed to be exercised in assessing the outlook for productivity and in relying on projections of the economy and prices, which necessarily embodied judgments about this outlook, in making monetary policy.

Participants continued to expect that, as the effects of transitory factors waned and labor market conditions strengthened further, inflation would stabilize around the Committee's 2 percent objective over the medium term.

With energy price increases expected to slow next year, total PCE inflation was seen as likely to fall back in line with core inflation by the end of 2011, as in previous projections.

Moreover, not all measures of core inflation had accelerated

Crude oil prices, though volatile, had not risen appreciably in recent months on balance, and a flattening in energy prices was beginning to damp headline inflation.

How would that development affect the economy and monetary policy?

Price and capital controls, which might have been feasible a half century ago, would be very difficult to implement in today's more technologically advanced environment.

It is now generally recognized that price stability is a prerequisite for the efficient allocation of resources in our economy and, indeed, for fulfilling our ultimate mandate to promote maximum sustainable employment over time.

On average, over the period from November 2020 to January 2021, the fraction of prime-age women with children aged 6 to 17 who were out of the labor force for caregiving had increased by 2.4 percentage points from a year earlier, while for men the fraction had increased by about 0.6 percentage point.5 If not soon reversed, the decline in the participation rate for prime‑age women could have scarring effects, with longer-term implications for household incomes and potential growth.6 Roughly 90 percent of the shortfall in private payroll employment relative to the pre-COVID level is concentrated in service-providing industries, with half of these service job losses in leisure and hospitality.

In terms of missing on inflation, policymakers' projections looked very much like most of the public's.

I mean, we—the—again, the relationship between slack in the economy and inflation is weak, has been weak.

The bottom line is that past performance, in several important dimensions, has been extraordinary and that prospects look favorable for continued expansion and relatively low inflation.

Staff Economic Outlook In the economic forecast prepared for the January FOMC meeting, the staff's projection for the growth in real gross domestic product (GDP) in the near term was revised down a bit.

The vote encompassed approval of the paragraph below for inclusion in the press statement to be released shortly after the meeting: "The Committee perceives the upside and downside risks to the attainment of both sustainable growth and price stability for the next few quarters are roughly equal.

My general point is that inflation is much too high, and the outlook for inflation remains significantly uncertain.

Participants generally agreed that the drag on U. S. economic activity from the appreciation of the dollar since the summer of 2014 and the slowdown in foreign economic growth, particularly in emerging market economies, was likely to continue to depress U. S. net exports for some time.

With the economic outlook held constant, changes in the net demand for long-term securities have their largest effect on the term premium.

An upside risk was that inflation could increase more than expected in an economy that was projected to move further above its potential.

The net effect could be steady, rising, or falling inflation--depending on whether productivity continues to accelerate and on how low the unemployment rate is driven in the process.

Moreover, the expected strength in aggregate demand would curb the extent of disinflation over time.

Critical though this issue is, it does not by itself capture the importance of productivity.

Because they cannot rule out the chance that some asset prices might correct more than anticipated, policymakers must consider how the economy might withstand such a correction.

Although the rate of pass-through from the higher prices of energy and other commodities to core consumer price inflation appears to have remained relatively low, the cumulative increases in energy and commodity prices have been large enough that they could account for some of the recent pickup in core inflation.

The Committee currently 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. "

At the conclusion of the discussion, the Committee voted to authorize and direct the Federal Reserve Bank of New York, until it was instructed otherwise, to execute transactions in the System Account in accordance with the following domestic policy directive: "The Federal Open Market Committee seeks monetary and financial conditions that will foster price stability and promote sustainable growth in output.

About the same time, Board staff developed the so-called P* (P-star) model, based on M2, which used the quantity theory of money and estimates of long-run potential output and velocity (the ratio of nominal income to money) to predict long-run inflation trends.