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A large output gap accompanied by stable inflation close to its target calls for further monetary accommodation, but the zero lower bound on interest rates has robbed the Federal Open Market Committee (FOMC) of the usual tool for ...
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A large output gap accompanied by stable inflation close to its target calls for further monetary accommodation, but the zero lower bound on interest rates has robbed the Federal Open Market Committee (FOMC) of the usual tool for its provision. We examine how public statements of FOMC intentions-forward guidance-can substitute for lower rates at the zero bound. We distinguish between Odyssean forward guidance, which publicly commits the FOMC to a future action, and Delphic forward guidance, which merely forecasts macroeconomic performance and likely monetary policy actions. Others have shown how forward guidance that commits the central bank to keeping rates at zero for longer than conditions would otherwise warrant can provide monetary easing, if the public trusts it. We empirically characterize the responses of asset prices and private macroeconomic forecasts to FOMC forward guidance, both before and since the recent financial crisis. Our results show that the FOMC has extensive experience successfully telegraphing its intended adjustments to evolving conditions, so communication difficulties do not present an insurmountable barrier to Odyssean forward guidance. Using an estimated dynamic stochastic general equilibrium model, we investigate how pairing such guidance with bright-line rules for launching rate increases can mitigate risks to the Federal Reserve's price stability mandate.
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We present a model embodying moderate amounts of nominal rigidities that accounts for the observed inertia in inflation and persistence in output. The key features of our model are those that prevent a sharp rise in marginal costs...
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We present a model embodying moderate amounts of nominal rigidities that accounts for the observed inertia in inflation and persistence in output. The key features of our model are those that prevent a sharp rise in marginal costs after an expansionary shock to monetary policy. Of these features, the most important are staggered wage contracts that have an average duration of three quarters and variable capital utilization.
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We ask how macroeconomic and financial variables respond to empirical measures of shocks to technology, labor supply, and monetary policy. These three shocks account for the preponderance of output, productivity, and price fluctua...
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We ask how macroeconomic and financial variables respond to empirical measures of shocks to technology, labor supply, and monetary policy. These three shocks account for the preponderance of output, productivity, and price fluctuations. Only technology shocks have a permanent impact on economic activity. Labor inputs have little initial response to technology shocks. Monetary policy has a small response to technology shocks but "leans against the wind" in response to the more cyclical labor supply shock. This shock has the biggest impact on interest rates. Stock prices respond to all three shocks. Other empirical implications of our approach are discussed.
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Monetary policy research using time-series methods has been criticized for using more information than the Federal Reserve had available. To quantify the role of this criticism, we estimate VARs with real-time data while accountin...
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Monetary policy research using time-series methods has been criticized for using more information than the Federal Reserve had available. To quantify the role of this criticism, we estimate VARs with real-time data while accounting for the latent nature of many economic variables, such as output. Our estimated monetary policy shocks are closely correlated with typically estimated measures. The impulse response functions are broadly similar across estimation methods. Our evidence suggests that the use of revised data in VAR analyses of monetary policy shocks may not be a serious limitation for recursively identified systems, but presents more challenges for simultaneous systems.
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The Federal Reserve has a dual mandate to foster both full employment and price stability. Most often these two goals are in alignment, so policies that support one objective generally support the other. However, at times the two ...
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The Federal Reserve has a dual mandate to foster both full employment and price stability. Most often these two goals are in alignment, so policies that support one objective generally support the other. However, at times the two aims can be at odds. When that happens, policies that target one goal may lead to misses on the other one. This article argues that taking a balanced approach between competing choices provides a solution that is in agreement with mainstream monetary policy rules.
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A number of academic studies find that either price-level targeting or temporary above-average inflation are nearly optimal policies to address a liquidity trap crisis. Still, central bankers and the public generally question whet...
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A number of academic studies find that either price-level targeting or temporary above-average inflation are nearly optimal policies to address a liquidity trap crisis. Still, central bankers and the public generally question whether even a temporarily higher inflation rate could be beneficial in addressing a liquidity trap or could be consistent with price stability over the longer term. At the same time, however, the Federal Reserve's projections for high unemployment and low inflation do not seem to be consistent with the best monetary policies to address the Fed's dual mandate responsibilities. Accordingly, it is useful to seriously discuss these potentially beneficial alternative policies.
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Following a lengthy review, the FOMC recently revised its long-run monetary policy strategy statement, largely in recognition of the persistent threat the effective lower bound (ELB) on policy rates poses to its dual mandate goals...
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Following a lengthy review, the FOMC recently revised its long-run monetary policy strategy statement, largely in recognition of the persistent threat the effective lower bound (ELB) on policy rates poses to its dual mandate goals. Under traditional monetary policy strategies, the ELB imparts a persistent downward bias to inflation and inflation expectations; to offset this, new strategies are needed which will at times deliver inflation above 2%. The new framework addresses this issue and seeks to achieve inflation that averages 2% over time. It also emphasizes that maximum employment is a broad-based and inclusive goal, and that the FOMC should seek to eliminate shortfalls—rather than symmetric deviations—from maximum employment. The FOMC’s September policy statement provided forward guidance that is fully consistent with the new strategy. Historical retrospection of the 2015–2018 liftoff period suggests that, if it were in place over that time, the new framework and forward guidance likely would have forestalled rate increases and potentially delivered better macroeconomic outcomes. More, generally, to reduce employment shortfalls and average 2% inflation over time, the FOMC needs to have an “in it to win it” attitude toward our inflation objective. The September FOMC statement’s forward guidance that inflation should be at 2% and confidently on track for overshooting before we liftoff from the ELB is an important step in that direction.
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Headline employment numbers have been consistent with previous recoveries from recession. Behind the headlines, however, there are troubling data that suggest that the recovery of labor markets is weaker than what would be suggest...
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Headline employment numbers have been consistent with previous recoveries from recession. Behind the headlines, however, there are troubling data that suggest that the recovery of labor markets is weaker than what would be suggested by prior experience. In particular, labor force participation is weaker than expected, and the duration of unemployment has been longer. This paper describes the dimensions of the problems, their implications, and issues concerning whether the U.S. Federal Reserve could have done more to forestall them-particularly with respect to its Large Scale Asset Purchases program.
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There is an emerging consensus among economists that the trend rate of economic growth in the U.S. is much lower now than in the past. In a lower-trend-growth regime, short-term equilibrium real interest rates are lower, all else ...
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There is an emerging consensus among economists that the trend rate of economic growth in the U.S. is much lower now than in the past. In a lower-trend-growth regime, short-term equilibrium real interest rates are lower, all else being equal. In these circumstances monetary policymakers have less room to cut policy rates before hitting the zero lower bound and relying on unconventional policy tools to provide additional accommodation. Moreover, preserving the Fed's credibility for providing sufficient accommodation to achieve our symmetric inflation objective and maximum employment remains an important consideration. Therefore, risk-management policies favor skewing policy today to lower the chances of facing more difficult zero-lower-bound outcomes in the future.
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This paper by Andres, Lopez-Salido, and Nelson (ALSN) studies four alternative price-setting specifications within a dynamic optimizing business cycle model. Two price adjustment mechanisms follow Calvo-style price-setting and two...
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This paper by Andres, Lopez-Salido, and Nelson (ALSN) studies four alternative price-setting specifications within a dynamic optimizing business cycle model. Two price adjustment mechanisms follow Calvo-style price-setting and two follow Mankiw-Reis sticky-information price-setting. An important focus of the analysis is to investigate which specifications satisfy particular definitions of the natural rate hypothesis (NRH). For a conference honoring Bennett McCallum's contributions to macroeconomics and monetary economics, this is an excellent topic of study. As the authors point out, only the Mankiw—Reis specifications satisfy the strong form of the NRH; that is, no monetary policy can keep output permanently higher than its natural rate level. But the Calvo-style models have price indexing schemes that allow the models to deliver output equal to its potential level on average providing the steady-state inflation rate is constant. This is a weaker form of the NRH adopted by Rotemberg and Woodford (1999) and Svensson (2003).
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