greenbooks · January 29, 2013
Greenbook/Tealbook
Prefatory Note
The attached document represents the most complete and accurate version available
based on original files from the FOMC Secretariat at the Board of Governors of the
Federal Reserve System.
Please note that some material may have been redacted from this document if that
material was received on a confidential basis. Redacted material is indicated by
occasional gaps in the text or by gray boxes around non-text content. All redacted
passages are exempt from disclosure under applicable provisions of the Freedom of
Information Act.
Content last modified 01/11/2019.
Authorized for Public Release
Class I FOMC – Restricted Controlled (FR)
Report to the FOMC
on Economic Conditions
and Monetary Policy
Book B
Monetary Policy:
Strategies and Alternatives
January 24, 2013
Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
The top panel of the first exhibit, “Policy Rules and the Staff Projection,”
provides near-term prescriptions for the federal funds rate from six policy rules: the
Taylor (1993) rule, the Taylor (1999) rule, the inertial Taylor (1999) rule, the outcomebased rule, the first-difference rule, and the nominal income targeting rule. These
prescriptions take as given the staff’s baseline projections for real activity and inflation in
2013. (Medium-term prescriptions derived from dynamic simulations of the rules are
discussed later.) As shown in the left-hand columns, all but two of the near-term
prescriptions keep the federal funds rate at the effective lower bound through the second
quarter of 2013. The Taylor (1993) rule, which puts relatively little weight on the output
gap, prescribes an average federal funds rate of about 110 basis points in the first two
quarters of 2013. The first-difference rule, which responds to the three-quarter-ahead
change in the output gap, prescribes an average federal funds rate of 40 basis points in the
first two quarters of 2013.1
The right-hand columns display the rule prescriptions that arise in the absence of
the lower-bound constraint. The inertial Taylor (1999) rule and the outcome-based rule
prescribe federal funds rates that are near zero for the next two quarters, while the Taylor
(1999) rule and the nominal income targeting rule prescribe negative values for the
federal funds rate. The more-accommodative prescriptions arising from the latter two
rules reflect the stronger immediate response of the rules to the staff’s estimate of the
output gap, which remains appreciably negative.2
The Tealbook baseline projections for the output gap and inflation are shown in
the bottom half of the exhibit, titled “Key Elements of the Staff Projection.” As
described in Book A of the Tealbook, the estimated path of the output gap is on average
about 35 basis points narrower than in the December Tealbook, reflecting the staff’s new
assumptions of higher equity prices and a less-restrictive fiscal policy as well as modest
1
As noted in Book A of the Tealbook, the staff has revised down the long-run value of the real
funds rate from 2¼ percent to 2 percent, reflecting its assessment that the long-run growth of the economy
is 2¼ percent compared to its previous estimate of 2½ percent. The intercepts of the different policy rules
have been adjusted to reflect this change, both for the current and the previous Tealbook simulations.
2
Although the rule prescriptions are not constrained to be at or above the lower bound, the inertial
Taylor (1999) rule, the outcome-based rule, the nominal income targeting rule, and the first-difference rule
all include and place substantial weight on the lagged federal funds rate, which is subject to the lowerbound constraint.
1 of 59
Strategies
Monetary Policy Strategies
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Strategies
Policy Rules and the Staff Projection
Near-Term Prescriptions of Selected Policy Rules
Constrained Policy
Unconstrained Policy
2013Q1
2013Q2
2013Q1
2013Q2
Taylor (1993) rule
Previous Tealbook
1.04
1.05
1.12
1.07
1.04
1.05
1.12
1.07
Taylor (1999) rule
Previous Tealbook
0.13
0.13
0.13
0.13
−0.86
−1.04
−0.73
−0.96
Inertial Taylor (1999) rule
Previous Tealbook
0.13
0.13
0.13
0.13
0.01
−0.03
−0.10
−0.17
Outcome-based rule
Previous Tealbook
0.13
0.13
0.13
0.13
0.08
−0.08
−0.03
−0.25
First-difference rule
Previous Tealbook
0.33
0.20
0.47
0.37
0.33
0.20
0.47
0.37
Nominal income targeting rule
Previous Tealbook
0.13
0.13
0.13
0.13
−0.53
−0.54
−1.02
−1.07
Memo: Equilibrium and Actual Real Federal Funds Rate
Tealbook-consistent FRB/US r* estimate
Actual real federal funds rate
Current
Tealbook
Current Quarter Estimate
as of Previous Tealbook
Previous
Tealbook
−1.83
−1.33
-2.06
−2.21
−1.45
Key Elements of the Staff Projection
GDP Gap
3
2
PCE Prices ex. Food and Energy
Percent
3
Current Tealbook
Previous Tealbook
2
1
1
0
0
-1
-1
-2
-2
-3
-3
-4
-4
-5
-5
-6
-6
-7
-7
-8
2012 2013 2014 2015 2016 2017 2018 2019 2020
-8
4.0
Four-quarter percent change
4.0
3.5
3.5
3.0
3.0
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
0.0
2012 2013 2014 2015 2016 2017 2018 2019 2020
0.0
Note: Since the previous Tealbook, the staff has revised down the long-run value of the real funds rate from 2.25 percent to 2 percent. The intercepts
of the different policy rules have been adjusted to reflect this change, both for the current and previous Tealbook simulations. Estimates of r* may
change at the beginning of a quarter even when the staff outlook is unchanged because the twelve-quarter horizon covered by the calculation has rolled
forward one quarter. Therefore, whenever the Tealbook is published early in the quarter, the memo includes a third column labeled "Current Quarter
Estimate as of Previous Tealbook."
2 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
downward revisions to potential output. Compared to the December Tealbook, the staff
convergence to 2 percent inflation over the subsequent years. With an improved outlook
for economic activity and an essentially unchanged outlook for inflation, the near-term
federal funds rate prescriptions from the unconstrained rules have increased slightly
compared to those in the December Tealbook.
The top panel of the first exhibit also reports the Tealbook-consistent estimate of
short-run r*, which is generated by the FRB/US model when conditioned on the staff’s
outlook for the economy. The short-run r* estimate corresponds to the real federal funds
rate that, if maintained, would return output to potential in twelve quarters. Consistent
with the staff’s revised assessment of the output gap, the r* estimate for the current
quarter is about 20 basis points higher than in the December Tealbook. As in previous
rounds, the estimate of r*—currently about ¾percent— remains below the estimated
actual real federal funds rate of about 1¼ percent.
The second exhibit, “Policy Rule Simulations without Thresholds,” reports
dynamic simulations using the FRB/US model that incorporate the endogenous responses
of inflation and the output gap to the paths of the federal funds rate prescribed by the
different policy rules under the assumption that the funds rate is constrained by the
effective lower bound. The model is adjusted to match the staff’s baseline outlook for the
economy and then simulated using the different policy rules. Each rule is implemented
from the first quarter of 2013 onward, under the assumption that private agents fully
understand and anticipate the implications for future real activity, inflation, and interest
rates of following the rule instead of the baseline policy.3 The exhibit also displays the
implications of the Tealbook baseline policy, which keeps the federal funds rate at its
effective lower bound of 12.5 basis points as long as the unemployment rate is above 6.5
percent and projected inflation between one and two years ahead is less than 2.5 percent;
once either of these thresholds is crossed, the federal funds rate follows the prescription
3
The staff’s baseline forecast incorporates the effects of the large-scale asset purchase programs
that the FOMC has undertaken in recent years, as well as the modifications to the Federal Reserve’s
reinvestment policies that were announced in September 2011. The staff baseline also assumes that the
FOMC will purchase an additional $500 billion in long-term Treasury securities and MBS during the first
half of 2013, and incorporates some “disappointment” on the part of financial market participants as they
gradually come to recognize that, contrary to what they currently appear to expect, the program will not be
continued beyond this point. Based on these assumptions, the policy rule simulations incorporate the
baseline effects of these balance sheet policies; the rules themselves are not directly adjusted for the effects
of balance sheet policies.
3 of 59
Strategies
now projects slightly lower core inflation in 2013 but essentially the same gradual
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Strategies
Policy Rule Simulations without Thresholds
Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
5
3
Percent
3
4
2
2
3
3
1
1
2
2
0
0
1
1
-1
-1
0
0
-2
-2
-1
-3
5
Taylor (1993) rule
Taylor (1999) rule
Inertial Taylor (1999) rule
Outcome based rule
Nominal income targeting rule
First-difference rule
Tealbook baseline
4
-1
2013
2014
2015
2016
2017
2018
2019
2020
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-3
PCE Inflation
Percent
8
8
7
3.0
Percent
3.0
Four-quarter average
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
7
6
6
5
4
2013
5
2013
2014
2015
2016
2017
2018
2019
2020
4
0.0
2013
2014
2015
2016
2017
2018
2019
Note: The policy rule simulations in this exhibit are based on rules that respond to core inflation. This choice
of rule specification was made in light of the tendency for current and near-term core inflation rates to outperform
headline inflation rates as predictors of the medium-term behavior of headline inflation.
4 of 59
2020
0.0
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
of the inertial Taylor (1999) rule.4 In contrast to the policy assumption underlying the
exhibit do not impose the thresholds that the Committee adopted in December 2012.
(Alternative policy rule simulations augmented with thresholds are discussed later.)
In the Tealbook baseline, the federal funds rate departs from the effective lower
bound in the fourth quarter of 2015, as in the December Tealbook. Subsequently, the
federal funds rate increases to 3 percent by the beginning of 2018, and reaches
3½ percent at the end of the decade. The unemployment rate declines below its threshold
value of 6.5 percent in the fourth quarter of 2015 and is expected to converge to the
staff’s estimate of the natural rate of unemployment by 2017.5 Headline inflation is
projected to rise gradually over time and then level off at 2 percent by 2018.
Without thresholds, the different policy rules all call for tightening to begin
appreciably earlier than in the Tealbook baseline. As a result, most of the rules cause the
real federal funds rate to be persistently higher than in the baseline forecast, thereby
resulting in higher unemployment and lower inflation through most of the decade. The
exception to this pattern is the nominal income targeting rule. Because this policy
implicitly seeks to push inflation modestly above 2 percent later in the decade, it
generates expectations of higher future inflation that, due to the forward-looking nature
of wage and price setting, lead to a higher path for inflation in both the near term and
later in the decade, and therefore a persistently lower path for the real federal funds rate
than in the Tealbook baseline.6 This more accommodative stance of monetary policy
stimulates real activity and generates a noticeably more rapid decline in unemployment
4
The use of the inertial Taylor (1999) rule with thresholds as the baseline rule represents a change
from the October and December Tealbooks, which used the outcome-based rule augmented with intercept
adjustments designed to be consistent with the date-based forward guidance in the Committee’s October
statement and the economic outlook as it stood at the time. The adjustments had the effect of delaying the
onset of tightening until after mid-2015; in addition, they caused the subsequent rise in the federal funds
rate to be more gradual than what the outcome-based rule without adjustments would have prescribed. This
round’s changes in the baseline rule do not substantially affect the Tealbook projections, in part because the
inertial Taylor rule closely replicates the gradual rise in the funds rate after liftoff that was incorporated into
the staff’s October and December projections.
5
The staff’s estimate of the effective natural rate of unemployment declines from about 6 percent
in the fourth quarter of 2013 to 5¼ percent by the end of 2017. It is assumed to remain at this level
thereafter.
6
As described in the Explanatory Notes, the nominal income targeting rule responds to the
nominal income gap defined as the difference between nominal GDP and target nominal GDP. For the rule
simulated here, target nominal GDP in 2007:Q4 is set equal to potential real GDP in 2007:Q4 times the
GDP deflator in that quarter; subsequently, target nominal GDP grows at a rate that is 2 percentage points
above that of potential real GDP.
5 of 59
Strategies
Tealbook baseline projection, the simulations of the different policy rules shown in the
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
than in the Tealbook baseline. As with the other policy rules, the prescriptions of the
Strategies
nominal income targeting rule are conditional on the public recognizing that monetary
policy will adhere to the rule in the future. This assumption is particularly important for
the nominal income targeting rule because it yields inflation above the 2 percent goal
even after the output gap is closed.
The third exhibit, “Policy Rule Simulations with Thresholds,” displays dynamic
simulations in which policy rules are subject to the thresholds that the Committee
adopted in December 2012. For each of the rules, the thresholds are imposed by keeping
the federal funds rate at its effective lower bound of 12.5 basis points as long as the
unemployment rate is above 6.5 percent and projected inflation between one and two
years ahead is less than 2.5 percent. In each of the simulations discussed below, crossing
the unemployment threshold is the catalyst for switching to the specified rule. The
private sector is assumed to understand the change in policy when a threshold condition
is crossed and to view it as permanent and fully credible.
The simulations with thresholds bring out several important properties of the
rules. First, because all of the policy rules without thresholds shown in the previous
exhibit imply a departure of the federal funds rate from the effective lower bound before
either threshold is crossed, imposing thresholds uniformly leads to a more-accomodative
policy. The imposition of thresholds alters economic outcomes least for the nominal
income targeting rule because this rule prescribes the most accommodative policy when
no thresholds are imposed. Second, the conduct of policy after the threshold is crossed
exerts a major influence on the effective stimulus provided by the threshold strategy. In
particular, post-crossing policy rules that entail a more gradual increase in the federal
funds rate imply a more rapid decline in unemployment along with higher inflation,
resulting in an earlier crossing of the thresholds and an earlier departure of the federal
funds rate from the effective lower bound. Third, the effectiveness of thresholdaugmented rules depends critically on the ability of policymakers to commit to a
particular rule after a threshold is crossed and the assumption of model-consistent
expectations.
An illustration of the effect of the degree of inertia embodied in a policy rule on
the amount of stimulus provided by the addition of thresholds is provided by simulations
employing either the Taylor (1993) rule or the Taylor (1999) rule once the unemployment
threshold is crossed. Because these rules are not subject to interest-rate inertia, they
6 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
5
3
Percent
3
4
2
2
3
3
1
1
2
2
0
0
1
1
-1
-1
0
0
-2
-2
-1
-3
5
Taylor (1993) rule
Taylor (1999) rule
Outcome based rule
Nominal income targeting rule
First-difference rule
Tealbook baseline
4
-1
2013
2014
2015
2016
2017
2018
2019
2020
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-3
PCE Inflation
Percent
8
8
7
3.0
Percent
3.0
Four-quarter average
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
7
6
6
5
4
2013
5
2013
2014
2015
2016
2017
2018
2019
2020
4
0.0
2013
2014
2015
2016
2017
2018
2019
Note: The policy rule simulations in this exhibit are based on rules that respond to core inflation. This choice
of rule specification was made in light of the tendency for current and near-term core inflation rates to outperform
headline inflation rates as predictors of the medium-term behavior of headline inflation.
7 of 59
2020
0.0
Strategies
Policy Rule Simulations with Thresholds
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
prescribe a rapid post-threshold tightening of monetary policy.7 As a result, real activity
Strategies
remains noticeably weaker and inflation lower than in the Tealbook baseline, which
employs the inertial Taylor (1999) rule. Indeed, this effect is large enough to push back
the onset of tightening relative to the baseline. Even with the rapid post-threshold
tightening, however, a close comparison of this exhibit with the previous one reveals that
augmenting the Taylor (1993) rule and the Taylor (1999) rule with thresholds modestly
improves macroeconomic outcomes.
In contrast, consider a case in which policy follows either the nominal income
targeting rule or the first-difference rule once one of the thresholds is crossed. Because
both of these rules are strongly inertial, they prescribe a more gradual increase in the
federal funds rate and implicitly push inflation modestly above 2 percent later on in the
decade. This more accommodative post-threshold stance of policy produces favorable
expectational effects similar to those discussed in the previous exhibit for nominal
income targeting in the absence of thresholds. Due to the forward-looking nature of
wage and price setting, expectations of higher future inflation lead to higher current
inflation and a lower path for the real federal funds rate before as well as after the
unemployment threshold is crossed. The resulting boost in real activity is reflected in a
more rapid decline in the unemployment rate than in the Tealbook baseline, thus
precipitating an earlier departure of the federal funds rate from the effective lower
bound.8
The fourth exhibit, “Constrained vs. Unconstrained Optimal Control Policy,”
compares optimal control simulations derived for this Tealbook with those shown in
7
The outcome-based rule prescribes a relatively rapid increase in the federal funds rate after the
thresholds are crossed. The non-inertial behavior of this rule primarily reflects the responsiveness of its
prescriptions to changes in the output gap. The outcome-based rule discussed here does not include any of
the intercept adjustments that were applied to the rule to derive the staff’s baseline policy in the October
and December Tealbooks; these October/December adjustments both delayed the onset of tightening until
late 2015 and appreciably slowed the pace of tightening thereafter relative to what the unadjusted rule
would have prescribed. As a result, the unadjusted outcome-based rule leads to a more rapid increase in the
federal funds rate once the threshold is reached than in the staff’s previous baseline projections.
8
The effects of imposing thresholds are most pronounced in the case of the first-difference rule.
Without thresholds, the economic outlook under this rule is noticeably worse than in the Tealbook baseline,
while with thresholds the outlook is noticeably better. This improvement occurs in large part because the
first-difference rule is more inertial than the other rules and does not respond to the level of economic
slack.
8 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
8
8
Current Tealbook: Constrained
Previous Tealbook: Constrained
Current Tealbook: Unconstrained
Tealbook baseline
7
6
7
4
Percent
4
3
3
2
2
1
1
6
5
5
4
4
3
3
0
0
2
2
-1
-1
1
1
-2
-2
-3
-3
-4
-4
0
0
-1
-1
-2
-2
-3
2013
2014
2015
2016
2017
2018
2019
2020
-3
-5
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-5
PCE Inflation
Percent
10
10
9
Four-quarter average
4.0
Percent
4.0
3.5
3.5
3.0
3.0
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
9
8
8
7
7
6
6
5
4
2013
5
2013
2014
2015
2016
2017
2018
2019
2020
4
0.0
9 of 59
2013
2014
2015
2016
2017
2018
2019
2020
0.0
Strategies
Constrained vs. Unconstrained Optimal Control Policy
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
December.9 In these simulations, policymakers are assumed to place equal weights on
Strategies
keeping headline PCE inflation close to the Committee’s 2 percent goal, on keeping the
unemployment rate close to the staff’s estimate of the effective natural rate of
unemployment, and on minimizing changes in the federal funds rate.
The simulations indicate that, with the federal funds rate constrained to remain
positive, the optimal control path for the federal funds rate does not rise above the
effective lower bound until the fourth quarter of 2015, one quarter earlier than in the
optimal control exercise shown in the December Tealbook. The optimal path is revised
upward beyond 2015 as well, reflecting the narrower output gap in the staff projection.10
By generating a lower path for the real federal funds rate than in the staff’s
baseline outlook, the constrained optimal control policy promotes a faster pace of
economic recovery while still keeping inflation well within a half percentage point of the
Committee’s goal of 2 percent. As a result, the unemployment rate drops below 6.5
percent in the second quarter of 2015 and falls to 5.9 percent by the time of liftoff at the
end of 2015; it then declines to 4.9 percent by the end of 2017, temporarily undershooting
the staff’s long-term estimate of the natural rate of unemployment. Inflation initially
exhibits a decline similar to that in the Tealbook baseline, but it then increases to near the
Committee’s 2 percent objective by mid-2016. Thereafter, inflation overshoots the 2
percent target by 20 to 30 basis points before gradually moving back toward 2 percent.
The more-rapid convergence to the Committee’s assumed objectives than in the Tealbook
baseline, and the subsequent persistent overshooting, occur because policymakers
respond to the lower bound constraint by committing to a less-than-normally aggressive
response to inflation for an extended period of time. As this policy is assumed to be
completely credible, it boosts inflation expectations and reduces real interest rates in the
short and medium run.
9
The optimal policy simulations incorporate the assumptions about underlying economic
conditions used in the staff’s baseline forecast, as well as the assumptions about balance sheet policies
described above.
10
Although the loss function uses headline inflation instead of core inflation, the real federal funds
rate shown in the upper right panel of the exhibit, as in the other simulations reported in this section, is
calculated as the difference between the nominal federal funds rate and a four-quarter moving average of
core PCE inflation. Core PCE inflation is used to compute the real rate for this illustrative purpose because
it provides a less volatile measure of inflation expectations than does a four-quarter moving average of
headline inflation.
10 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
In the absence of the lower-bound constraint, the optimal federal funds rate would
in the second quarter of 2015. Under this optimal unconstrained policy, the
unemployment rate would decline more rapidly than under the optimal constrained
policy. Inflation would increase to 2 percent by the beginning of 2016, a pattern much
like that in the constrained simulation. In subsequent years, inflation would slightly
exceed the 2 percent objective, but by somewhat less than in the constrained case.
The final two exhibits, “Outcomes under Alternative Policies without Thresholds”
and “Outcomes under Alternative Policies with Thresholds,” tabulate the simulation
results for key variables under each policy rule discussed above, with and without
thresholds.
11 of 59
Strategies
gradually decline to about ½percent by the end of 2013 and return to positive territory
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Outcomes under Alternative Policies without Thresholds
Strategies
(Percent change, annual rate, from end of preceding period except as noted)
2012
Measure and scenario
H2
2013 2014 2015 2016 2017
Real GDP
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
2.7
1.9
2.3
2.5
2.3
2.2
2.9
2.9
3.2
2.3
2.7
3.0
2.7
2.6
3.5
3.6
3.5
3.0
3.1
3.3
3.1
3.0
3.7
3.7
3.2
3.3
3.1
3.2
3.1
3.1
3.2
3.3
2.1
2.7
2.4
2.4
2.5
2.6
2.2
2.0
Unemployment rate2
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
7.8
7.8
7.8
7.8
7.8
7.8
7.8
7.8
7.6
7.8
7.7
7.6
7.7
7.7
7.5
7.5
7.1
7.8
7.5
7.3
7.5
7.6
6.9
6.8
6.3
7.3
6.9
6.6
6.9
7.0
6.0
5.9
5.6
6.5
6.2
5.9
6.2
6.3
5.2
5.1
5.3
5.9
5.7
5.5
5.7
5.8
5.0
4.9
Total PCE prices
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.4
1.4
1.4
1.4
1.4
1.4
1.4
1.4
1.4
0.7
1.0
1.3
1.0
1.1
1.7
1.7
1.5
0.6
0.9
1.3
1.0
1.1
1.8
1.8
1.6
0.7
1.0
1.4
1.1
1.2
1.9
1.9
1.8
0.8
1.2
1.6
1.3
1.4
2.1
2.1
2.0
1.1
1.4
1.8
1.5
1.6
2.3
2.3
Core PCE prices
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.6
1.0
1.2
1.5
1.3
1.3
1.9
1.9
1.7
0.9
1.1
1.5
1.2
1.3
2.0
2.0
1.7
0.8
1.2
1.6
1.3
1.4
2.1
2.1
1.8
0.9
1.2
1.7
1.4
1.5
2.2
2.2
2.0
1.1
1.4
1.8
1.5
1.7
2.3
2.3
Federal funds rate2
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
0.2
0.2
0.2
0.2
0.2
0.2
0.2
0.2
0.1
0.6
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.6
0.1
0.3
0.2
0.5
0.1
0.1
0.3
1.1
0.9
0.9
1.0
1.5
0.8
0.3
1.8
1.8
2.0
1.8
2.0
2.1
2.0
1.5
2.8
2.3
2.5
2.6
2.5
2.4
2.8
2.7
1. In the Tealbook baseline, the federal funds rate stays at its effective lower bound of 12.5 basis points as long as
the unemployment rate is above 6.5 percent and projected inflation from 1 to 2 years ahead is less than 2.5 percent.
Once either threshold is crossed, the federal funds rate follows the prescription of the inertial Taylor (1999) rule.
2. Percent, average for the final quarter of the period.
12 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Outcomes under Alternative Policies with Thresholds1
2012
Measure and scenario
H2
2013 2014 2015 2016 2017
Real GDP
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.6
1.6
1.6
1.6
1.6
1.6
1.6
2.7
2.4
2.4
2.5
2.8
2.9
2.9
3.2
2.8
2.9
3.0
3.4
3.5
3.6
3.5
3.2
3.3
3.4
3.6
3.7
3.7
3.2
3.1
3.1
3.1
3.1
3.2
3.3
2.1
2.2
2.2
2.1
2.2
2.1
2.0
Unemployment rate2
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
7.8
7.8
7.8
7.8
7.8
7.8
7.8
7.6
7.7
7.6
7.6
7.5
7.5
7.5
7.1
7.4
7.4
7.3
7.0
6.9
6.8
6.3
6.8
6.7
6.6
6.1
6.0
5.9
5.6
6.1
6.0
5.8
5.4
5.2
5.1
5.3
5.7
5.6
5.5
5.1
4.9
4.9
Total PCE prices
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.4
1.4
1.4
1.4
1.4
1.4
1.4
1.4
0.9
1.0
1.2
1.6
1.7
1.7
1.5
0.9
1.0
1.2
1.8
1.8
1.8
1.6
0.9
1.1
1.3
1.9
1.9
1.9
1.8
1.1
1.3
1.5
2.1
2.1
2.1
2.0
1.3
1.5
1.7
2.3
2.3
2.3
Core PCE prices
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.6
1.2
1.3
1.4
1.9
1.9
1.9
1.7
1.1
1.2
1.4
2.0
2.0
2.0
1.7
1.1
1.2
1.5
2.1
2.1
2.1
1.8
1.2
1.4
1.6
2.2
2.2
2.2
2.0
1.3
1.5
1.7
2.3
2.3
2.3
Federal funds rate2
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome based
First-difference
Nominal income targeting
Constrained optimal control
0.2
0.2
0.2
0.2
0.2
0.2
0.2
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.3
0.1
0.1
0.1
0.8
0.7
0.3
1.8
2.4
2.4
2.0
2.2
2.0
1.5
2.8
2.7
2.7
2.9
2.6
2.8
2.7
1. With the exception of constrained optimal control, monetary policy is specified to keep the federal funds rate
at its effective lower bound of 12.5 basis points as long as the unemployment rate is above 6.5 percent and
projected inflation from 1 to 2 years ahead is less than 2.5 percent. Once either of these thresholds is crossed, the
federal funds rate follows the prescriptions of the specified rule. Policy in the Tealbook baseline also uses these
threshold conditions and switches to the inertial Taylor (1999) rule once either of these thresholds is crossed.
2. Percent, average for the final quarter of the period.
13 of 59
Strategies
(Percent change, annual rate, from end of preceding period except as noted)
Authorized for Public Release
Strategies
Class I FOMC - Restricted Controlled (FR)
(This page is intentionally blank.)
14 of 59
January 24, 2013
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Monetary Policy Alternatives
This Tealbook presents three policy alternatives—labeled A, B, and C—for the
Committee’s consideration. Alternative B would continue purchases of agency-backed
MBS and longer-term Treasury securities at the monthly rates that the Committee
specified in its December statement. Alternative A would increase the pace of securities
purchases to $100 billion per month. In contrast, Alternative C would substantially
reduce the pace of purchases; it also would indicate that the Committee expects to reduce
the pace of purchases further in coming months if the economy develops as anticipated.
Alternatives A and B would repeat the “stopping condition” that the FOMC first used in
substantial improvement in the outlook for the labor market is achieved in a context of
price stability. Alternative C would state that the Committee expects to end purchases by
midyear. All three alternatives would maintain the 0 to ¼ percent target range for the
federal funds rate and retain threshold-based forward guidance for the funds rate (but all
would drop the December language that said the Committee viewed the thresholds as
consistent with its earlier date-based guidance). Alternatives B and C would keep the
unemployment threshold at 6½ percent, as in December, while Alternative A would
lower that threshold to 5½ percent. All of the alternatives would retain the 2½ percent
threshold for projected inflation between one and two years ahead.
In summarizing recent economic developments, all of the alternatives begin by
noting that growth in economic activity slowed in recent months. Alternatives A and B
attribute the slowing “in large part” to transitory factors; Alternative C implicitly
attributes all of the slowing to transitory factors. Alternatives A and B observe that
employment continued to expand at a moderate pace, but that the unemployment rate
remains elevated. Alternative C acknowledges that the unemployment rate is still
elevated, but emphasizes its substantial decline during the past year. All of the
alternatives indicate that household spending and business fixed investment advanced;
the three draft statements also note “further improvement” in the housing sector (rather
than “further signs of improvement” as in the Committee’s previous statement). Each of
the alternatives states, as in December, that inflation “has been running somewhat below
the Committee’s longer-run objective, apart from temporary variations that largely reflect
fluctuations in energy prices.” In addition, each alternative reiterates that longer-term
inflation expectations have remained stable. In each alternative, the main message of the
15 of 59
Alternatives
its September statement: The Committee will continue its securities purchases until a
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
first paragraph is that the Committee is not alarmed by the fourth quarter’s sluggish
output growth, or by the evidence that headline inflation ran well below the Committee’s
2 percent objective, because it views those outcomes as the result of short-lived factors.
The second paragraphs of Alternatives B and C reinforce this message by stating
the Committee’s expectation that economic growth “will proceed at a moderate pace” (in
Alternative B) or “will return to a moderate pace” (in Alternative C), and that the
unemployment rate will decline toward levels judged consistent with the dual mandate.
Alternative B conditions that projection on “sufficient policy accommodation” while
Alternative C implies that the Committee expects the recovery to be strong enough to
Alternatives
warrant reducing the pace of asset purchases. Alternative A adopts a more tentative tone,
stating that “the Committee judges that, without additional policy accommodation,
economic growth likely would not be strong enough to generate sustained improvement
in labor market conditions.” In response to the improved situation in European financial
markets, Alternatives B and C note some easing of strains in global financial markets;
Alternative C also points to a reduction in downside risks to the outlook, while
Alternative B indicates they remain significant. In contrast, Alternative A not only says
that downside risks remain significant, it adds a reference to risks from “unresolved fiscal
issues.” (Alternative B offers the option of citing risks from unresolved fiscal issues.)
With respect to inflation, Alternative B repeats the words of the December statement:
“The Committee also anticipates that inflation over the medium term likely will run at or
below its 2 percent objective.” In contrast, Alternative A indicates that medium-term
inflation likely will be “somewhat below” its 2 percent objective while Alternative C says
that inflation likely will run “close to” its 2 percent objective over the medium term.
The following table summarizes key elements of the alternative statements. As
always, the Committee could blend elements of the three draft statements, or substitute
other language, to construct its desired statement. The summary table is followed by the
complete drafts of the three statements and then by arguments for each alternative.
16 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Table 1: Overview of Policy Alternatives for the January 30 FOMC Statement
Selected
Elements
December
Statement
January Alternatives
A
B
C
The Committee
judges that,
without additional
policy
accommodation,
growth likely
would not be
strong enough to
generate . . .
The Committee expects
that, with sufficient
policy accommodation,
growth will proceed at a
moderate pace and the
unemployment rate will
gradually decline toward
levels consistent with its
dual mandate.
The Committee expects that
growth will return to a
moderate pace and that the
unemployment rate will
decline toward levels the
Committee judges consistent
with its dual mandate.
unchanged
inflation over the medium
term likely will run close to
2 percent
Outlook
The Committee remains
concerned that, without
sufficient policy
accommodation, growth
might not be strong
enough to generate
sustained improvement in
labor market conditions.
inflation over the
inflation over the medium medium term
term likely will run at or likely will run
below 2 percent
somewhat below
2 percent
Balance Sheet Policies
Agency MBS $40 billion per month
$45 billion per
month
unchanged
$20 billion per month
Longer-Term initially $45 billion per
month
Treasuries
$55 billion per
month
unchanged
$25 billion per month
reinvest principal payments from agency securities into agency MBS
Securities
Reinvestment
Guidance
roll over maturing Treasuries at auction
If the outlook for the
labor market does not
improve substantially, the
Committee will continue
its purchases of
securities, and employ its
other policy tools as
appropriate, until such
improvement is achieved
in a context of price
stability.
Unchanged
If the economy develops as
anticipated, the Committee
expects to further reduce the
pace of its asset purchases in
coming months and to bring
them to an end by midyear.
However, if the labor market
does not improve as
expected or if inflation is
projected to be appreciably
below 2 percent, the
Committee is prepared to
maintain or increase the pace
of purchases of longer-term
securities, and employ other
policy tools as appropriate.
In determining the size, pace, and composition of purchases, the Committee will, as always, take
appropriate account of the likely efficacy and costs of such purchases.
Federal Funds Rate
Target
0 to ¼ percent
. . . the Committee expects that a highly accommodative policy will remain appropriate for a considerable
time after the asset purchase program ends and the economic recovery strengthens.
Guidance
. . . currently anticipates this range will be appropriate at least as long as the unemployment rate
remains above 6½ percent [5½ percent for Alternative A], inflation between one and two years
ahead is projected to be no more than ½ percentage point above the 2 percent longer-run goal, and
longer-term inflation expectations continue to be well anchored; will also consider other information;
when the Committee begins to remove accommodation, it will take a balanced approach
consistent with maximum employment and inflation of 2 percent
17 of 59
Alternatives
Economic Outlook
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
DECEMBER FOMC STATEMENT
Alternatives
1. Information received since the Federal Open Market Committee met in October
suggests that economic activity and employment have continued to expand at a
moderate pace in recent months, apart from weather-related disruptions. Although
the unemployment rate has declined somewhat since the summer, it remains elevated.
Household spending has continued to advance, and the housing sector has shown
further signs of improvement, but growth in business fixed investment has slowed.
Inflation has been running somewhat below the Committee’s longer-run objective,
apart from temporary variations that largely reflect fluctuations in energy prices.
Longer-term inflation expectations have remained stable.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee remains concerned that, without
sufficient policy accommodation, economic growth might not be strong enough to
generate sustained improvement in labor market conditions. Furthermore, strains in
global financial markets continue to pose significant downside risks to the economic
outlook. The Committee also anticipates that inflation over the medium term likely
will run at or below its 2 percent objective.
3. To support a stronger economic recovery and to help ensure that inflation, over time,
is at the rate most consistent with its dual mandate, the Committee will continue
purchasing additional agency mortgage-backed securities at a pace of $40 billion per
month. The Committee also will purchase longer-term Treasury securities after its
program to extend the average maturity of its holdings of Treasury securities is
completed at the end of the year, initially at a pace of $45 billion per month. The
Committee is maintaining its existing policy of reinvesting principal payments from
its holdings of agency debt and agency mortgage-backed securities in agency
mortgage-backed securities and, in January, will resume rolling over maturing
Treasury securities at auction. Taken together, these actions should maintain
downward pressure on longer-term interest rates, support mortgage markets, and help
to make broader financial conditions more accommodative.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months. If the outlook for the labor market does not
improve substantially, the Committee will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until such improvement is achieved in a context of price stability. In determining the
size, pace, and composition of its asset purchases, the Committee will, as always, take
appropriate account of the likely efficacy and costs of such purchases.
5. To support continued progress toward maximum employment and price stability, the
Committee expects that a highly accommodative stance of monetary policy will
remain appropriate for a considerable time after the asset purchase program ends and
the economic recovery strengthens. In particular, the Committee decided to keep the
target range for the federal funds rate at 0 to ¼ percent and currently anticipates that
this exceptionally low range for the federal funds rate will be appropriate at least as
18 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Alternatives
long as the unemployment rate remains above 6½ percent, inflation between one and
two years ahead is projected to be no more than a half percentage point above the
Committee’s 2 percent longer-run goal, and longer-term inflation expectations
continue to be well anchored. The Committee views these thresholds as consistent
with its earlier date-based guidance. In determining how long to maintain a highly
accommodative stance of monetary policy, the Committee will also consider other
information, including additional measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. When the Committee decides to begin to remove policy
accommodation, it will take a balanced approach consistent with its longer-run goals
of maximum employment and inflation of 2 percent.
19 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
JANUARY FOMC STATEMENT—ALTERNATIVE A
Alternatives
1. Information received since the Federal Open Market Committee met in October
December suggests indicates that growth in economic activity and employment
have continued to expand at a moderate pace slowed in recent months, apart from in
large part because of weather-related disruptions and other transitory factors.
Employment has continued to expand at a moderate pace but Although the
unemployment rate has declined somewhat since the summer, it remains elevated.
Household spending has continued to and business fixed investment advanced, and
the housing sector has shown further signs of improvement, but growth in business
fixed investment has slowed. Inflation has been running somewhat below the
Committee’s longer-run objective, apart from temporary variations that largely reflect
fluctuations in energy prices. Longer-term inflation expectations have remained
stable.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee remains concerned judges that,
without sufficient additional policy accommodation, economic growth might likely
would not be strong enough to generate sustained improvement in labor market
conditions. Furthermore, strains in global financial markets and unresolved fiscal
issues continue to pose significant downside risks to the economic outlook. The
Committee also anticipates that inflation over the medium term likely will run at or
somewhat below its 2 percent objective.
3. To support a stronger economic recovery and to help ensure that inflation, over time,
is at the rate most consistent with its dual mandate, the Committee will continue
purchasing additional increase the pace at which it purchases agency mortgagebacked securities at a pace of $40 to $45 billion per month. The Committee also will
increase the pace at which it purchases longer-term Treasury securities after its
program to extend the average maturity of its holdings of Treasury securities is
completed at the end of the year, initially at a pace of $45 to $55 billion per month.
The Committee is maintaining its existing policy of reinvesting principal payments
from its holdings of agency debt and agency mortgage-backed securities in agency
mortgage-backed securities and, in January, will resume of rolling over maturing
Treasury securities at auction. Taken together, these actions will increase the
Committee’s holdings of longer-term securities by $100 billion per month and
should maintain put additional downward pressure on longer-term interest rates,
support mortgage markets, and help to make broader financial conditions more
accommodative.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months. If the outlook for the labor market does not
improve substantially, the Committee will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until such improvement is achieved in a context of price stability. In determining the
size, pace, and composition of its asset purchases, the Committee will, as always, take
appropriate account of the likely efficacy and costs of such purchases.
20 of 59
January 24, 2013
5. To support continued progress toward maximum employment and price stability, the
Committee expects that a highly accommodative stance of monetary policy will
remain appropriate for a considerable time after the asset purchase program ends and
the economic recovery strengthens. In particular, the Committee decided to keep the
target range for the federal funds rate at 0 to ¼ percent and currently anticipates that
this exceptionally low range for the federal funds rate will be appropriate at least as
long as the unemployment rate remains above 6½ 5½ percent, inflation between one
and two years ahead is projected to be no more than a half percentage point above the
Committee’s 2 percent longer-run goal, and longer-term inflation expectations
continue to be well anchored. The Committee views these thresholds as consistent
with its earlier date-based guidance. In determining how long to maintain a highly
accommodative stance of monetary policy, the Committee will also consider other
information, including additional measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. When the Committee decides to begin to remove policy
accommodation, it will take a balanced approach consistent with its longer-run goals
of maximum employment and inflation of 2 percent.
21 of 59
Alternatives
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
JANUARY FOMC STATEMENT—ALTERNATIVE B
Alternatives
1. Information received since the Federal Open Market Committee met in October
December suggests indicates that growth in economic activity and employment
have continued to expand at a moderate pace slowed in recent months, apart from in
large part because of weather-related disruptions and other transitory factors.
Employment has continued to expand at a moderate pace but Although the
unemployment rate has declined somewhat since the summer, it remains elevated.
Household spending has continued to and business fixed investment advanced, and
the housing sector has shown further signs of improvement, but growth in business
fixed investment has slowed. Inflation has been running somewhat below the
Committee’s longer-run objective, apart from temporary variations that largely reflect
fluctuations in energy prices. Longer-term inflation expectations have remained
stable.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee remains concerned expects that,
without with sufficient policy accommodation, economic growth might not be strong
enough to generate sustained improvement in labor market conditions will proceed at
a moderate pace and the unemployment rate will gradually decline toward levels
the Committee judges consistent with its dual mandate. Furthermore, Although
strains in global financial markets continue to pose have eased somewhat, the
Committee continues to see significant downside risks to the economic outlook [ , in
part reflecting unresolved fiscal issues ]. The Committee also anticipates that
inflation over the medium term likely will run at or below its 2 percent objective.
3. To support a stronger economic recovery and to help ensure that inflation, over time,
is at the rate most consistent with its dual mandate, the Committee will continue
purchasing additional agency mortgage-backed securities at a pace of $40 billion per
month and. The Committee also will purchase longer-term Treasury securities after
its program to extend the average maturity of its holdings of Treasury securities is
completed at the end of the year, initially at a pace of $45 billion per month. The
Committee is maintaining its existing policy of reinvesting principal payments from
its holdings of agency debt and agency mortgage-backed securities in agency
mortgage-backed securities and, in January, will resume of rolling over maturing
Treasury securities at auction. Taken together, these actions should maintain
downward pressure on longer-term interest rates, support mortgage markets, and help
to make broader financial conditions more accommodative.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months. If the outlook for the labor market does not
improve substantially, the Committee will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until such improvement is achieved in a context of price stability. In determining the
size, pace, and composition of its asset purchases, the Committee will, as always, take
appropriate account of the likely efficacy and costs of such purchases.
22 of 59
January 24, 2013
5. To support continued progress toward maximum employment and price stability, the
Committee expects that a highly accommodative stance of monetary policy will
remain appropriate for a considerable time after the asset purchase program ends and
the economic recovery strengthens. In particular, the Committee decided to keep the
target range for the federal funds rate at 0 to ¼ percent and currently anticipates that
this exceptionally low range for the federal funds rate will be appropriate at least as
long as the unemployment rate remains above 6½ percent, inflation between one and
two years ahead is projected to be no more than a half percentage point above the
Committee’s 2 percent longer-run goal, and longer-term inflation expectations
continue to be well anchored. The Committee views these thresholds as consistent
with its earlier date-based guidance. In determining how long to maintain a highly
accommodative stance of monetary policy, the Committee will also consider other
information, including additional measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. When the Committee decides to begin to remove policy
accommodation, it will take a balanced approach consistent with its longer-run goals
of maximum employment and inflation of 2 percent.
23 of 59
Alternatives
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
JANUARY FOMC STATEMENT—ALTERNATIVE C
Alternatives
1. Information received since the Federal Open Market Committee met in October
December suggests indicates that growth in economic activity and employment
have continued to expand at a moderate pace slowed in recent months, apart from
because of weather-related disruptions and other transitory factors. Although the
unemployment rate remains elevated, it has declined somewhat since the summer, it
remains elevated substantially during the past year. Household spending has
continued to and business fixed investment advanced, and the housing sector has
shown further signs of improvement, but growth in business fixed investment has
slowed. Inflation has been running somewhat below the Committee’s longer-run
objective, apart from temporary variations that largely reflect fluctuations in energy
prices. Longer-term inflation expectations have remained stable.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee remains concerned that, without
sufficient policy accommodation, economic growth might not be strong enough to
generate sustained improvement in labor market conditions. The Committee expects
that economic growth will return to a moderate pace and that the unemployment
rate will decline toward levels the Committee judges consistent with its dual
mandate. Furthermore, strains in global financial markets continue to pose
significant and the associated downside risks to the economic outlook appear to
have diminished. The Committee also anticipates that inflation over the medium
term likely will run at or below close to its 2 percent objective.
3. In light of the outlook for labor markets and inflation, and its current
assessment of the likely efficacy and costs of further asset purchases, the
Committee decided to reduce the pace of its asset purchases. In particular, To
support a stronger economic recovery and to help ensure that inflation, over time, is at
the rate most consistent with its dual mandate, the Committee will continue
purchasing purchase additional agency mortgage-backed securities at a pace of $40
$20 billion per month and The Committee also will purchase longer-term Treasury
securities after its program to extend the average maturity of its holdings of Treasury
securities is completed at the end of the year, initially at a pace of $45 $25 billion per
month. The Committee is maintaining its existing policy of will continue to
reinvesting principal payments from its holdings of agency debt and agency
mortgage-backed securities in agency mortgage-backed securities and, in January,
will resume to rolling over maturing Treasury securities at auction. Taken together,
these actions will increase the Committee’s holdings of longer-term securities and
should maintain downward pressure on longer-term interest rates, support mortgage
markets, and help to make keep broader financial conditions more accommodative.
24 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
5. To support continued progress toward maximum employment and price stability, the
Committee expects that a highly accommodative stance of monetary policy will
remain appropriate for a considerable time after the asset purchase program ends and
the economic recovery strengthens. In particular, the Committee decided to keep the
target range for the federal funds rate at 0 to ¼ percent and currently anticipates that
this exceptionally low range for the federal funds rate will be appropriate at least as
long as the unemployment rate remains above 6½ percent, inflation between one and
two years ahead is projected to be no more than a half percentage point above the
Committee’s 2 percent longer-run goal, and longer-term inflation expectations
continue to be well anchored. The Committee views these thresholds as consistent
with its earlier date-based guidance. In determining how long to maintain a highly
accommodative stance of monetary policy, the Committee will also consider other
information, including additional measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. When the Committee decides to begin to remove policy
accommodation, it will take a balanced approach consistent with its longer-run goals
of maximum employment and inflation of 2 percent.
25 of 59
Alternatives
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months. If the economy develops as anticipated, the
Committee expects to further reduce the pace of its asset purchases in coming
months and to bring them to an end by midyear. However, if the outlook for the
labor market does not improve substantially as expected or if inflation is projected
to be appreciably below 2 percent, the Committee will continue is prepared to
maintain or increase the pace of its purchases of Treasury and agency mortgagebacked longer-term securities, and employ its other policy tools as appropriate, until
such improvement is achieved in a context of price stability. In determining the size,
pace, and composition of its asset purchases, the Committee will, as always, take
appropriate account of the likely efficacy and costs of such purchases.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
THE CASE FOR ALTERNATIVE B
Although output growth appears to have slowed substantially in the fourth quarter
of 2012, the drop seems to have been caused largely or entirely by transitory factors:
sizable reductions in federal purchases, inventory investment, and exports; plus
disruptions to production in the aftermath of Hurricane Sandy. In contrast, the growth
rate of private domestic final purchases (the sum of personal consumption expenditures,
business fixed investment, and residential investment) apparently increased during the
fourth quarter, reflecting double-digit growth in business fixed investment, residential
investment, and consumer spending on durable goods (particularly motor vehicles). The
slowdown in output growth was not reflected in job growth to any substantial extent; total
Alternatives
payrolls expanded at a pace of about 150,000 per month during the fourth quarter—only
a bit below the third quarter pace—and growth of private payrolls actually stepped up
from the third quarter to the fourth. Even so, the unemployment rate flattened out at 7.8
percent during the fourth quarter, a level well above participants’ estimates of the longerrun normal rate of unemployment. Moreover, policymakers may see other indicators of
labor market conditions, including the fraction of employees who are working part-time
for economic reasons and the still very high level of long-duration unemployment, as
indicating that there is substantial slack in labor markets. At the same time, underlying
inflation appears to be running somewhat below the Committee’s longer-run objective:
While the recent monthly readings on headline consumer price inflation were negative,
the drop reflected declines in energy prices; the inflation rate for non-energy goods and
services and its 12-month moving average remained positive but well below 2 percent.1
In light of the available information, the Committee might anticipate that the
factors that generated sluggish output growth last quarter will not persist into this year.
Moreover, policymakers might see the recent indicators and the passage of the American
Taxpayer Relief Act (ATRA) as suggesting no more than modest changes in the mediumterm outlook for economic activity relative to the outlook at the time of the December
FOMC meeting, and hence may again conclude that economic activity is likely to grow at
a moderate rate consistent with a gradual convergence to maximum employment over
time if the Committee continues to implement the balance sheet and interest rate policies
that it announced in December. At the same time, the Committee might judge that there
are still substantial downside risks to the economic outlook, both because the ATRA left
1
Similarly, core and trimmed mean PCE inflation, and their 12-month moving averages, remained
positive but well under 2 percent.
26 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
a number of important fiscal policy issues unresolved and because financial strains in
Europe, though currently off the front page, have not been fully addressed. Policymakers
also might observe that market-based indicators of longer-term inflation expectations
were essentially unchanged over the intermeeting period and remain near the middle of
the range observed in recent years. Accordingly, participants may judge that inflation
expectations remain well anchored. If so, the Committee might conclude that continuing
the recent pace of asset purchases for the time being, keeping the federal funds rate at its
current low level, and maintaining the recently introduced threshold-based forward
guidance for the funds rate, as in Alternative B, are all appropriate steps to promote
substantial improvement in labor market conditions and to help ensure that inflation
Some policymakers might see a still-more-accommodative policy stance as both
warranted and necessary to generate a substantial improvement in labor market
conditions over time; they may judge that the benefits of a larger and longer-lasting flow
of asset purchases that results in a considerable further expansion of the Federal
Reserve’s securities holdings would be likely to outweigh any costs. Some other
policymakers may read the economy’s resilience in the face of shocks during 2012 as
evidence that the recovery has become self-sustaining, and anticipate that growth in
output and employment will increase over time even with a reduction in the pace of asset
purchases. Moreover, some participants may doubt that additional asset purchases would
have an appreciable effect on the real economy, and think that the costs and risks
associated with a sizable further expansion of the Committee’s securities holdings would
be likely to outweigh the benefits. All of these participants may nevertheless agree that
the Committee will have more information, at the time of its March meeting, about the
extent to which economic activity will rebound from its fourth quarter deceleration. They
also may agree that the Committee will have a better understanding of the costs and
benefits of large-scale asset purchases after completing the assessment of efficacy and
costs that it will undertake during its March meeting, and therefore will be in a better
position to convey its thinking about the likely path of future asset purchases.
Accordingly, policymakers may consider it appropriate to announce that the Committee
will continue asset purchases at their current pace while remaining alert for signs that the
balance between the costs and benefits of asset purchases might be shifting.
With respect to the forward guidance for the federal funds rate, even
policymakers who are skeptical that quantitative thresholds enhance the clarity and
27 of 59
Alternatives
converges to 2 percent over time.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
transparency of the Committee’s policy communications may agree that it would be
inappropriate to change or drop the threshold language so soon after adopting it.
However, the December statement included a transitional sentence saying that the
Committee saw the thresholds as consistent with its earlier date-based guidance; the draft
alternatives for this meeting drop that sentence in order to allow the thresholds to guide
market expectations regarding the time of liftoff.
The Desk’s latest survey of primary dealers indicates that most dealers expect the
flow-based asset purchases to end in the fourth quarter of 2013 or first quarter of 2014; as
before, only a few dealers expect purchases to end before the fourth quarter of this year
Alternatives
and no dealer expects purchases to end by midyear. The median dealer expects the
Committee to continue purchasing agency-backed MBS at a pace of $40 billion per
month and longer-term Treasury securities at a pace of $45 billion per month until the
end of this year—implying a $1 trillion increase in the Federal Reserve’s securities
holdings during 2013. The median dealer also expects the Committee to acquire another
$60 billion of longer-term Treasury securities, but no additional MBS, during the first
quarter of 2014. The survey shows no significant change in the expected path of the
federal funds rate or in the most likely date of liftoff. Thus, a statement along the lines of
Alternative B would not surprise market participants and seems likely to generate little
market reaction; it also would be unlikely to alter market participants’ views on the likely
pace or cumulative amount of future asset purchases.
THE CASE FOR ALTERNATIVE A
In light of the tax increases in the ATRA and the cuts in federal spending that are
likely to come in the next few months—either from sequestration or from future action by
the Congress, some policymakers may see the medium-term outlook as weak enough, or
the downside risks as large enough, to warrant announcing further policy accommodation
immediately, as in Alternative A. With the unemployment rate well above their estimates
of its longer-run normal level, long-duration unemployment still quite elevated, and trend
inflation running below the Committee’s 2 percent objective, these participants may
judge that the amount of policy accommodation provided by the Committee’s recent
decisions regarding flow-based asset purchases and quantitative thresholds is unlikely to
be sufficient to generate satisfactory progress toward the Committee’s goals of maximum
employment and 2 percent inflation. Moreover, they may see the increases in longerterm interest rates since the December FOMC meeting as counterproductive, given that it
28 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
does not appear to reflect an improvement in the modal economic outlook, and so may
want to push back against the rise in rates.
Though they may agree that there has been some reduction in downside risks
originating from the euro area in recent months, some policymakers may continue to see
risks from unresolved fiscal issues in the United States and judge that the risks to the
economic outlook are still heavily weighted to the downside. With the economy still well
below maximum employment, inflation below target, and short-term interest rates at their
effective lower bound, some participants might judge that the consequences of a new
adverse shock would be significantly more costly than the consequences of providing
and then discovering that economic growth or inflation rise more than expected. If so,
they may see the degree of uncertainty about the outlook and the asymmetry in risks and
potential costs as arguing for a further increase in policy accommodation.
If they hold these views, participants might favor Alternative A. Specifically,
they might see increasing the pace of asset purchases to $100 billion per month
(specifically, to $45 billion per month of agency MBS and $55 billion per month of
longer-term Treasury securities) as appropriate to promote a more rapid decline in
unemployment.2 Policymakers may anticipate that an increase in the pace of purchases
would raise market participants’ expectations of the ultimate stock of securities that the
Federal Reserve will acquire under its flow-based purchase program, thereby putting
additional downward pressure on longer-term interest rates and making financial
conditions more accommodative. Moreover, some policymakers might think that
stepping up purchases of agency MBS would help strengthen the recovery in the housing
sector, not only by putting further downward pressure on mortgage rates but perhaps also
by spurring mortgage originators to expand capacity to process applications from a rising
number of potential homebuyers. Participants may see a stronger recovery in the housing
sector as generating additional benefits such as raising consumer confidence, boosting
household wealth, and easing the credit constraints facing some households.
Policymakers also may judge that reducing the unemployment rate threshold in the
forward guidance to 5½ percent (from 6½ percent in the December statement) would
push out investors’ expectation of the date on which short term interest rates might begin
2
The Desk anticipates that increasing the pace of agency MBS purchases to $45 billion per month
and the pace of purchases of longer-term Treasury securities to $55 billion per month would be feasible and
would not disrupt market functioning.
29 of 59
Alternatives
more policy accommodation to spur faster growth and return inflation toward 2 percent
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
to rise—and, given the Committee’s stated exit principles, of the time at which asset sales
might begin—and thus help to reduce longer-term interest rates and make broader
financial conditions more accommodative.3
An announcement along the lines of Alternative A certainly would surprise
market participants. Indeed, no dealer expects the FOMC to increase the pace of
purchases during the first half of this year. Increasing the monthly pace of purchases
could prompt investors to revise up their projections of the total amount of securities that
the Federal Reserve will acquire under its flow-based asset purchase program. Reducing
the unemployment threshold to 5½ percent would suggest a longer period of very low
Alternatives
funds rates than dealers currently expect. Longer-term real interest rates likely would
decline if participants responded to a statement like Alternative A by increasing their
projections of the cumulative increase in Federal Reserve securities holdings and
flattening their expected path for the federal funds rate. Inflation compensation and
equity prices probably would rise, and the dollar could depreciate. However, if investors
read the statement of Alternative A as indicating that the FOMC now has a gloomier
outlook for growth and employment, equity prices would rise less or could even decline.
Moreover, changing one of the thresholds so soon after adopting them might create
confusion about the extent to which the Committee feels bound by its forward guidance
and increase the volatility in asset prices.
THE CASE FOR ALTERNATIVE C
Some participants might see the recent data as suggesting that, after taking
account of temporary factors, the underlying pace of growth in economic activity
improved in recent months. These policymakers might point to the apparent rebound in
growth of business fixed investment during the fourth quarter, and to evidence of further
3
Simulations of FRB/US with thresholds in effect suggest that keeping the funds rate near zero
until the unemployment rate reaches 5½ percent (or projected inflation reaches 2½ percent), and then
switching to the inertial Taylor (1999) rule, would reduce the unemployment rate by about 25 basis points
in late 2014 and 40 basis points in late 2016, and return the economy to full employment two quarters
sooner, relative to following the same approach with a 6½ percent threshold. The simulations also suggest
that setting the unemployment threshold at 5½ percent would also yield about 25 basis points higher
inflation from 2014 through 2016 than if the threshold were 6½ percent. With the current staff forecast as
the underlying baseline, the simulation of Alternative A with a 5½ percent threshold for unemployment and
a 2½ percent threshold for projected inflation (and with securities purchases at a pace of $100 billion per
month through the middle of this year, followed by tapering to zero at year-end) produces outcomes for
unemployment and inflation that are quite close to the constrained optimal control paths shown in the final
set of charts in the Monetary Policy Strategies section of this Tealbook.
30 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
improvement in the housing sector. Indeed, after smoothing through the fluctuations in
recent data, some policymakers may see the economy as likely to be on a sustainable
course that will be associated with ongoing improvements in labor market conditions.
Moreover, they may view financial strains in Europe—and the corresponding downside
risks to the U.S. economy—as having eased further since December. They also may see
the ATRA as having substantially reduced uncertainty about future tax rates—and thus as
having reduced an impediment to growth—even if it left other fiscal issues unresolved
for now. If so, these policymakers might see the monetary policy actions that the
Committee has set in train since September as likely to provide too much policy
accommodation, leading to an undesirable rise in future inflation that could prove
immediately, to signal a high likelihood of further reductions in the pace of purchases in
coming months, and to announce that the Committee expects to end asset purchases by
midyear if the economy develops as anticipated, as in Alternative C.
Some policymakers may regard the potential benefits of additional asset
purchases under present circumstances as likely to be small and as unlikely to outweigh
the associated costs. They may be skeptical that additional purchases would have a
significant effect on growth in output and employment. For example, they may feel that
lower longer-term interest rates would prompt corporations to restructure their balance
sheets but have little impact on their investment and hiring decisions. Alternatively,
participants might worry that further Federal Reserve purchases of safe assets when
interest rates are already quite low could lead to excessive risk-taking and other
imbalances that might undermine financial stability over time. Even if they judge that
further asset purchases would offer some benefit, participants may be concerned that
anything more than a modest further increase in the size of the SOMA securities portfolio
could greatly complicate exit from the current highly accommodative policy stance. In
particular, they may be concerned that selling an even larger MBS portfolio over three to
five years—as envisioned in the exit principles announced by the Committee in June
2011—would prove difficult and would disrupt issuance of new MBS. In addition, they
might see further asset purchases as substantially raising the odds that the Federal
Reserve would realize significant losses during the eventual normalization of policy, and
be concerned about the potentially difficult communications and political issues that such
losses could raise. Moreover, policymakers may worry that changing the exit strategy
could weaken the credibility of the Committee’s future monetary policy announcements.
Such concerns might lead policymakers to prefer a policy action and associated statement
31 of 59
Alternatives
difficult to reverse. As a result, they may choose to slow the pace of asset purchases
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
like that in Alternative C. Indeed, some participants might prefer to end asset purchases
immediately rather than tapering purchases to midyear. Some other policymakers,
however, might find it appropriate to slow the pace of purchases without stating that the
Committee intends to reduce the pace to zero by midyear. They might see doing so as
giving the Committee more time to assess the efficacy, costs, and risks of its purchase
program, or as reducing the risk that ongoing purchases will cause disruptions in market
functioning.
A statement like of Alternative C would come as a considerable surprise to
market participants and might well be interpreted as signaling a significantly earlier
Alternatives
removal of policy accommodation than investors had expected. According to the Desk’s
survey, most dealers expect purchases of longer-term securities to continue at their
present pace well beyond midyear. Hence a statement along the lines of Alternative C
likely would lead investors to mark down significantly their expectations of the
Committee’s cumulative asset purchases and so cause an increase in longer-term yields.
In addition, the changes to the Committee’s inflation outlook and its assessment of
risks—in paragraph 2 of the statement—might cause an upward shift in market
participants’ expectations of the likely path for the federal funds rate, reinforcing the
increase in intermediate- and long-term interest rates. Equity prices would probably fall,
and the dollar might appreciate.
32 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
LONG-RUN PROJECTIONS OF THE BALANCE SHEET AND MONETARY BASE
The staff has prepared three scenarios for the Federal Reserve’s balance sheet that
correspond to Alternatives A, B, and C. All three policy alternatives include additional
asset purchases in 2013.4 Alternative B continues purchases at the monthly rates that the
Committee specified in its December statement, $45 billion per month of longer-term
Treasury securities and $40 billion per month of agency MBS. Alternative A increases
the pace of securities purchases, while Alternative C decreases the pace. All three
alternatives maintain the 0 to ¼ percent target range for the federal funds rate and retain
threshold-based forward guidance for the funds rate based on the outlook for
unemployment and inflation. Projections under each scenario are based on assumptions
assumptions, as well as projections for each major component of the balance sheet, can
be found in Explanatory Note D.5
4
As announced in December, the Committee is assumed to maintain its policy of reinvesting
principal payments from Treasury securities at auction. It is also assumed to continue reinvesting principal
payments from agency MBS and agency debt securities into agency MBS. The effect of assuming
reinvestment of Treasury securities at auction is very modest; as a result of the maturity extension program,
there are currently less than $6 billion of Treasury securities in the SOMA portfolio that mature before
January 2016.
5
The entire expected path of the portfolio has implications for the evolution of economic activity,
interest rates and Federal Reserve income. To the extent that market participants have different
expectations for the size, pace, and composition of purchases as well as the execution of the exit strategy
than is assumed in these scenarios, the resulting effects on economic activity, interest rates and Federal
Reserve income will differ from those presented here.
33 of 59
Alternatives
about the trajectory of various components of the balance sheet. Details of these
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
For the balance sheet scenario that corresponds to Alternative B, the Committee is
assumed to continue MBS purchases at $40 billion per month and purchases of longerterm Treasury securities of $45 billion per month through June 2013. These roughly
$500 billion in additional purchases in 2013, when combined with the $250 billion in
purchases from October through December 2012, imply a total expansion of SOMA
holdings of longer-term securities of about $750 billion.6 This scenario might be viewed
as roughly consistent with the description of asset purchases in the statement language of
Alternative B.7 Overall, under this scenario, SOMA securities holdings are about $3.3
trillion at the end of December 2013.
Alternatives
In the Alternative B scenario, we assume that the first increase in the target
federal funds rate is in December 2015, as in the staff forecast.8 The date of liftoff is a
key determinant of the trajectory of the balance sheet. In June 2015, six months before
the first increase in the target federal funds rate, all reinvestment is assumed to cease, and
the SOMA portfolio begins to contract. In June 2016, six months after the initial increase
in the target federal funds rate, the Committee begins to sell its holdings of agency
securities at a pace that reduces the amount of these securities in the portfolio to zero in
five years, that is, by May 2021. Through these redemptions and sales, the size of the
portfolio is normalized by May 2019.9, 10 The balance sheet then begins to expand, with
6
Although the SOMA portfolio’s holdings of longer-term securities increases by about $750
billion between October 2012 and June 2013, total securities holdings increase by less because of the asset
sales and redemptions under the maturity extension program.
7
The statement indicates that the Committee will continue asset purchases until a substantial
improvement in the outlook for the labor market is achieved in a context of price stability. It also notes that
the Committee will “take appropriate account of the likely efficacy and costs of such purchases.” In the
staff economic outlook, by mid-2013, there will be accumulating evidence of a pickup in economic growth
and an outlook for substantial improvement in the unemployment rate, which is projected to decline from
near 7¾ percent in mid-2013 to 7¼ percent in mid-2014 and to 7 percent in late 2014. Alternatively, by
mid-2013, the Committee could end the purchase program based on its assessment of the efficacy and costs
of additional asset purchases.
8
At the time of liftoff, the unemployment rate is projected to be just below 6.5 percent, and core
PCE inflation is expected to be 1.7 percent. This liftoff date for the federal funds rate is two months later
than that assumed in the balance sheet projections for Alternative B in the December Tealbook.
9
The tools to drain reserve balances (reverse repurchase agreements and term deposits) are not
modeled in any of the scenarios presented. Use of these tools would result in a shift in the composition of
Federal Reserve liabilities—a decline in reserve balances and a corresponding increase in reverse
repurchase agreements or term deposits—but would not produce an overall change in the size of the
balance sheet.
10
The size of the balance sheet is assumed to be normalized when the securities portfolio reverts
to its longer-run trend level, determined largely by currency in circulation plus Federal Reserve capital and
a projected steady-state level of reserve balances. The projected timing of the normalization of the size of
the balance sheet depends importantly on the level of reserve balances that is assumed to be necessary to
34 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
increases in SOMA holdings essentially matching the growth of Federal Reserve Bank
capital and currency in circulation. Total assets are $2.6 trillion at the end of 2025.
The additional purchases of securities through the middle of 2013 significantly
increase the level of SOMA holdings and reserve balances through the medium term.
Sales of agency MBS after the federal funds rate increases are projected to result in
realized capital losses.11 These capital losses in conjunction with the rise in interest
expense on reserve balances substantially reduce Federal Reserve net income; however,
Federal Reserve remittances to the Treasury are projected to remain positive and no
deferred asset is recorded.
purchases of longer-term Treasury securities to $55 billion per month and of agency
MBS to $45 billion per month, starting in February. Around midyear, the Committee is
assumed to begin to taper purchases and at year-end it stops all purchases. These
purchases total $1 trillion in 2013, which, when combined with the $250 billion in
purchases from October through December 2012, ultimately expand the SOMA
portfolio’s holdings of longer-term securities by about $1.25 trillion. This scenario might
be viewed as roughly consistent with the descriptions of asset purchases in the statement
language of Alternative A.12 The Committee continues reinvesting principal payments
from agency MBS and agency debt securities into agency MBS and maintains its policy
of rolling over maturing Treasury securities at auction. In this scenario, SOMA security
holdings increase to $3.8 trillion. In the Alternative A scenario, we assume that the first
increase in the target federal funds rate is pushed out to July 2016, consistent with the
reduction in the threshold for the unemployment rate to 5½ percent in the statement
language. In January 2016, six months prior to the assumed first increase in the federal
funds rate, all reinvestments are projected to cease and the SOMA portfolio begins to
contract. Six months after the lift off of the federal funds rate, sales of agency securities
conduct monetary policy; currently, we assume that level of reserve balances to be $25 billion. A higher
steady-state level for reserve balances would, all else equal, lead to an earlier normalization of the size of
the balance sheet.
11
Under Reserve Bank accounting, securities held in the SOMA portfolio are recorded on an
amortized cost basis. As a result, realized losses and gains on securities sold affect the Federal Reserve’s
net income; unrealized losses and gains are not reflected in net income.
12
Under the staff’s baseline forecast, by late 2013, the unemployment rate will have fallen to 7.6
percent and real GDP will be expanding at about a 3 percent annual rate. The outlook for labor market
conditions as of late 2013 would include a half percentage point decline in the unemployment rate through
late 2014 and a one and a quarter percentage point decline through late 2015. Alternative A provides more
policy accommodation than in the staff forecasts, suggesting an even stronger outlook.
35 of 59
Alternatives
In the scenario for Alternative A, the Committee is assumed to step-up the pace of
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
begin and continue for five years. The size of the portfolio is normalized by January
2020—about three-and-a-half years after sales begin, and somewhat longer than the
timeframe anticipated in the exit strategy principles.13
The additional purchases of securities in this scenario substantially boost the level
of reserve balances. As the federal funds rate rises in 2016, 2017, and 2018, the interest
expense on reserve balances increases quickly. The interest expense combined with the
losses realized on the sales of agency MBS result in a very low level of remittances to the
Treasury in 2018, but no deferred asset is recorded.14
For the scenario that corresponds to Alternative C, the Committee is assumed to
Alternatives
decrease the pace of purchases of longer-term Treasury securities to $25 billion per
month and of agency MBS to $20 billion per month in February and March. In the
second quarter, the Committee further reduces its purchase pace and completes all
purchases by the end of June. The purchases total $250 billion in 2013, resulting in
cumulative purchases of $500 billion in longer-term securities since October 2012. In
this scenario, the federal funds rate is assumed to lift off in December 2014, one year
earlier than in Alternative B.15 Corresponding to this earlier increase in the federal funds
rate, reinvestment of principal from maturing or prepaying securities end and
redemptions begin in June 2014, and the portfolio begins to contract. Sales of agency
securities commence in June 2015 and last for five years. SOMA securities holdings in
this scenario peak at $3.0 trillion, and the size of the balance sheet is normalized in
September 2018, eight months earlier than under Alternative B.
Across scenarios, the peak amount of reserve balances and the level of reserve
balances outstanding at liftoff are directly related to the magnitude of assumed asset
purchases. Under Alternative A, reserve balances peak at about $2.7 trillion, while under
Alternative B, reserve balances peak at $2.2 trillion. Under Alternative C, reserve
13
In Alternative A, MBS are sold over a five-year period in order to be consistent with the timing
assumed in Alternative B. If sales were assumed to be completed over about three and a half years, the
portfolio would normalize in three years. However, the sales pace implied by this strategy could possibly
be near the upper-end of the sustainable pace of sales that would preserve market functioning.
14
Relative to the December Tealbook Alternative A, this projection does not record a deferred
asset. This change reflects the staff’s downward revision to long-run potential GDP growth, which implies
slightly lower interest rate paths from 2017 onward relative to the last Tealbook; the lower interest rate
paths reduce projected realized capital losses relative to projections in the December Tealbook.
15
The scaling back of the asset purchase program may be seen as consistent with a stronger
economy than in the baseline, suggesting that it would be appropriate to raise the funds rate sooner than
under the baseline projection.
36 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
balances rise from their current level to $1.9 trillion. For the scenario corresponding to
Alternative A, reserve balances are $2.2 trillion when the federal funds rate lifts off from
its lower bound in July 2016. For the scenario corresponding to Alternative B, reserve
balances are $1.9 trillion when the federal funds rate lifts off from its lower bound in
December 2015. For the scenario corresponding to Alternative C, reserve balances are
$1.7 trillion when the federal funds rate lifts off from its lower bound in December 2014.
In the scenario corresponding to Alternative B, the monetary base increases
significantly from 2012 to 2013 because of the purchase program and the accompanying
increase in reserve balances. Once exit begins, the monetary base shrinks rapidly through
are redeemed or sold. Starting in the third quarter of 2019, after reserve balances are
assumed to have stabilized at $25 billion, the monetary base begins to expand, in line
with the growth of Federal Reserve notes in circulation. Under Alternative A, the
monetary base increases from 2012 to 2014 as the level of reserve balances climbs in
concert with the expansion of the Federal Reserve’s balance sheet. The base then
contracts during the exit until after the size of the portfolio is normalized. Under
Alternative C, the monetary base increases from 2012 to 2013 because of the purchase
program and then contracts, on net, until after the size of the portfolio is normalized.
37 of 59
Alternatives
the second quarter of 2019, primarily reflecting a decline in reserve balances as securities
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Growth Rates for the Monetary Base
Alternatives
Date
Alternative B Alternative A Alternative C
Apr-12
May-12
Jun-12
Jul-12
Aug-12
Sep-12
Oct-12
Nov-12
Dec-12
-12.2
-8.7
-5.1
7.7
7.8
-12.4
-8.9
11.1
14.7
2011 Q3
2011 Q4
2012 Q1
2012 Q2
2012 Q3
2012 Q4
2013 Q1
2013 Q2
21.0
-5.9
5.5
-3.9
0.8
-0.8
35.3
43.0
Percent, annual rate
Monthly
-12.2
-12.2
-8.7
-8.7
-5.1
-5.1
7.7
7.7
7.8
7.8
-12.4
-12.4
-8.9
-8.9
11.1
11.1
14.7
14.7
Quarterly
21.0
-5.9
5.5
-3.9
0.8
-0.8
36.6
48.5
Annual - Q4 to Q4
2010
0.9
0.9
2011
32.9
32.9
2012
0.4
0.4
2013
28.2
42.9
2014
-0.8
2.6
2015
-2.0
-0.8
2016
-10.5
-6.9
2017
-16.3
-14.3
2018
-21.7
-20.0
2019
-12.5
-27.3
2020
4.6
4.6
2021
4.5
4.3
2022
4.6
4.5
2023
4.6
4.5
2024
4.5
4.5
2025
4.5
4.5
Note: Not seasonally adjusted.
38 of 59
December
Alternative B
-12.2
-8.7
-5.1
7.7
7.8
-12.4
-8.9
32.6
37.9
21.0
-5.9
5.5
-3.9
0.8
-0.8
32.7
27.2
21.0
-5.9
5.5
-3.9
0.8
6.6
36.4
30.2
0.9
32.9
0.4
17.6
-1.9
-4.9
-14.9
-17.9
-19.8
4.0
4.6
4.5
4.6
4.6
4.5
4.5
0.9
32.9
2.2
25.7
-0.6
-1.3
-13.2
-16.5
-23.4
-7.4
4.6
4.6
4.6
4.7
4.7
4.7
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
DEBT, BANK CREDIT, AND MONEY FORECASTS
Domestic nonfinancial sector debt is projected to expand over the forecast period
ending in 2015 at an average annual rate of 3¾ percent, about one percentage point lower
than in 2012, as growth of federal government debt steps down and private nonfinancial
debt accelerates somewhat. We forecast that nonfinancial business debt will grow at a
moderate rate over the projection period, consistent with the anticipated pace of
investment spending. Having contracted for the past five years, home mortgage debt is
expected to grow slowly over the forecast period, as still tight financing conditions and a
substantial amount of negative home equity are expected to continue to weigh on debt
growth. Meanwhile, we project that consumer credit will grow at a robust pace over the
pickup in spending on consumer durables.
Commercial bank credit is expected to increase moderately over the forecast
period. Core loans—the sum of commercial and industrial (C&I), real estate, and
consumer loans—are projected to rise gradually through 2015. Following rapid growth
in 2012, we anticipate that C&I loans will expand more in line with nominal GDP growth
over the medium term. Commercial real estate loans are projected to accelerate modestly
over the forecast period, as several factors that are currently restraining growth—high
vacancy rates, depressed prices for commercial properties, and the poor credit quality of
existing loans—are likely to ease somewhat. The growth rates of residential real estate
loans on banks’ books and consumer loans on banks’ books are both expected to step up
slightly from their currently weak paces, reflecting some further gradual easing of
standards and terms on such loans as the economy strengthens. Banks’ securities
holdings are projected to rise more slowly during the forecast period than they did in
2012 as deposit growth ebbs and demand for bank loans strengthens.
In the first half of 2013, we expect growth in both M2 and its largest component,
liquid deposits, to be moderate in comparison with the rapid expansion observed over
recent years as investors gradually react to the expiration of the unlimited FDIC
insurance on noninterest-bearing transaction deposits, thereby dampening growth of M2
assets.16 Subsequently, M2 is forecast to continue to grow at a pace below that of
16 The Dodd-Frank Act provided temporary, unlimited deposit insurance coverage for
noninterest-bearing transaction accounts at FDIC-insured institutions from December 31, 2010, through
December 31, 2012. For additional background, see the box “Expiration of Unlimited FDIC Deposit
Insurance” in the Financial Developments section of Tealbook Book A.
39 of 59
Alternatives
forecast horizon, reflecting continued strong demand for student and auto loans and a
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
nominal income, as the expected improvement in financial and economic conditions over
the forecast period encourages investors to reallocate their portfolios away from M2
assets and toward riskier investments. M2 is projected to contract toward the end of 2015
in response to the anticipated increase in short-term market interest rates and the
Alternatives
accompanying rise in the opportunity cost of holding money.
40 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Growth Rates for M2
Monthly Growth Rates
Jun-12
Jul-12
Aug-12
Sep-12
Oct-12
Nov-12
Dec-12
Jan-13
Feb-13
Mar-13
Apr-13
May-13
Tealbook Forecast*
6.2
11.1
8.7
9.1
9.9
6.0
12.7
3.3
1.0
0.7
0.6
0.6
Quarterly Growth Rates
2012 Q3
2012 Q4
2013 Q1
2013 Q2
2013 Q3
2013 Q4
2014 Q1
2014 Q2
2014 Q3
2014 Q4
8.6
9.1
4.9
0.6
1.9
2.0
1.9
2.5
2.9
3.1
Annual Growth Rates
2012
2013
2014
2015
7.5
2.4
2.6
1.7
*This forecast is consistent with nominal GDP and interest rates in the
Tealbook forecast. Actual data through January 14, 2013; projections
thereafter.
41 of 59
Alternatives
(Percent, seasonally adjusted annual rate)
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
DIRECTIVE
The directive that was issued in December appears on the next page, followed by
drafts for a January directive that correspond to each of the policy alternatives. These
drafts suggest a number of updates to make the language of the directive consistent with
the Committee’s post-meeting statements.
The draft directive for Alternative B instructs the Desk to continue purchasing
additional agency MBS at a pace of about $40 billion per month and to continue
purchasing longer-term Treasury securities at a pace of about $45 billion per month. The
draft directive for Alternative A directs the Desk to purchase additional agency MBS at a
Alternatives
pace of about $45 billion per month and to purchase longer-term Treasury securities at a
pace of about $55 billion per month. The draft directive for Alternative C instructs the
Desk to purchases agency MBS at a pace of about $20 billion per month and to purchase
longer-term Treasury securities at a pace of about $25 billion per month. None of the
directives specifies an end-date for purchases, but the draft statement for Alternative C
indicates that the Committee expects to end purchases by midyear. All three of the draft
directives direct the Desk to continue the current practice of reinvesting principal
payments on all agency debt and agency MBS in agency MBS. All three also instruct the
Desk to continue rolling over maturing Treasury securities at auction.
42 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
December directive
The Federal Open Market Committee seeks monetary and financial conditions that will
foster price stability and promote sustainable growth in output. To further its long-run
objectives, the Committee seeks conditions in reserve markets consistent with federal
funds trading in a range from 0 to ¼ percent. The Committee directs the Desk to
complete the maturity extension program it announced in June to purchase Treasury
securities with remaining maturities of 6 years to 30 years with a total face value of about
$267 billion by the end of December 2012, and to sell or redeem Treasury securities with
remaining maturities of approximately 3 years or less with a total face value of about
to resume its policy of rolling over maturing Treasury securities into new issues. From
the beginning of January, the Desk is directed to purchase longer-term Treasury securities
at a pace of about $45 billion per month. The Committee directs the Desk to maintain its
existing policy of reinvesting principal payments on all agency debt and agency
mortgage-backed securities in the System Open Market Account in agency mortgagebacked securities. The Desk is also directed to continue purchasing agency mortgagebacked securities at a pace of about $40 billion per month. The Committee directs the
Desk to engage in dollar roll and coupon swap transactions as necessary to facilitate
settlement of the Federal Reserve's agency MBS transactions. The System Open Market
Account Manager and the Secretary will keep the Committee informed of ongoing
developments regarding the System's balance sheet that could affect the attainment over
time of the Committee's objectives of maximum employment and price stability.
43 of 59
Alternatives
$267 billion. Following the completion of this program, the Committee directs the Desk
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Directive for January 2013 Alternative A
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and promote
sustainable growth in output price stability. To further its long-run objectivesIn
particular, the Committee seeks conditions in reserve markets consistent with federal
funds trading in a range from 0 to ¼ percent. The Committee directs the Desk to
complete the maturity extension program it announced in June to purchase Treasury
securities with remaining maturities of 6 years to 30 years with a total face value of about
$267 billion by the end of December 2012, and to sell or redeem Treasury securities with
Alternatives
remaining maturities of approximately 3 years or less with a total face value of about
$267 billion undertake open market operations as necessary to maintain such
conditions. From the beginning of January Beginning February 1, the Desk is directed
to increase the pace of purchases of longer-term Treasury securities at a pace of to about
$45 $55 billion per month The Desk is also directed to continue purchasing and to
increase the pace of purchases of agency mortgage-backed securities at a pace of to
about $40 $45 billion per month. The Committee also directs the Desk to engage in
dollar roll and coupon swap transactions as necessary to facilitate settlement of the
Federal Reserve's agency MBS transactions. Following the completion of this program,
The Committee directs the Desk to resume maintain its policy of rolling over maturing
Treasury securities into new issues and The Committee directs the Desk to maintain its
existing policy of reinvesting principal payments on all agency debt and agency
mortgage-backed securities in the System Open Market Account in agency mortgagebacked securities. The System Open Market Account Manager and the Secretary will
keep the Committee informed of ongoing developments regarding the System's balance
sheet that could affect the attainment over time of the Committee's objectives of
maximum employment and price stability.
44 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Directive for January 2013 Alternative B
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and promote
sustainable growth in output price stability. To further its long-run objectives In
particular, the Committee seeks conditions in reserve markets consistent with federal
funds trading in a range from 0 to ¼ percent. The Committee directs the Desk to
complete the maturity extension program it announced in June to purchase Treasury
securities with remaining maturities of 6 years to 30 years with a total face value of about
$267 billion by the end of December 2012, and to sell or redeem Treasury securities with
$267 billion undertake open market operations as necessary to maintain such
conditions. From the beginning of January, The Desk is directed to continue
purchasing longer-term Treasury securities at a pace of about $45 billion per month and
The Desk is also directed to continue purchasing agency mortgage-backed securities at a
pace of about $40 billion per month. The Committee also directs the Desk to engage in
dollar roll and coupon swap transactions as necessary to facilitate settlement of the
Federal Reserve's agency MBS transactions. Following the completion of this program
The Committee directs the Desk to resume maintain its policy of rolling over maturing
Treasury securities into new issues and The Committee directs the Desk to maintain its
existing policy of reinvesting principal payments on all agency debt and agency
mortgage-backed securities in the System Open Market Account in agency mortgagebacked securities. The System Open Market Account Manager and the Secretary will
keep the Committee informed of ongoing developments regarding the System's balance
sheet that could affect the attainment over time of the Committee's objectives of
maximum employment and price stability.
45 of 59
Alternatives
remaining maturities of approximately 3 years or less with a total face value of about
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Directive for January 2013 Alternative C
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and promote
sustainable growth in output price stability. To further its long-run objectives In
particular, the Committee seeks conditions in reserve markets consistent with federal
funds trading in a range from 0 to ¼ percent. The Committee directs the Desk to
complete the maturity extension program it announced in June to purchase Treasury
securities with remaining maturities of 6 years to 30 years with a total face value of about
$267 billion by the end of December 2012, and to sell or redeem Treasury securities with
Alternatives
remaining maturities of approximately 3 years or less with a total face value of about
$267 billion undertake open market operations as necessary to maintain such
conditions. From the beginning of January Beginning February 1, the Desk is directed
to reduce the pace of purchases of longer-term Treasury securities at a pace of to about
$45 $25 billion per month The Desk is also directed to continue purchasing and to
reduce the pace of purchases of agency mortgage-backed securities at a pace of to
about $40 $20 billion per month. The Committee also directs the Desk to engage in
dollar roll and coupon swap transactions as necessary to facilitate settlement of the
Federal Reserve's agency MBS transactions. Following the completion of this program,
The Committee directs the Desk to resume maintain its policy of rolling over maturing
Treasury securities into new issues and The Committee directs the Desk to maintain its
existing policy of reinvesting principal payments on all agency debt and agency
mortgage-backed securities in the System Open Market Account in agency mortgagebacked securities. The System Open Market Account Manager and the Secretary will
keep the Committee informed of ongoing developments regarding the System's balance
sheet that could affect the attainment over time of the Committee's objectives of
maximum employment and price stability.
46 of 59
Authorized for Public Release
Explanatory Notes
A. Policy Rules Used in “Monetary Policy Strategies”
The table below gives the expressions for the selected policy rules used in "Monetary
Policy Strategies." In the table, \( R_t\) denotes the nominal federal funds rate for quarter \( t\), while
the right-hand-side variables include the staff's projection of trailing four-quarter core PCE inflation
for the current quarter and three quarters ahead (\( \pi_t\) and \( \pi_{t+3|t}\)), the output gap estimate
for the current period as well as its one-quarter-ahead forecast (\( gap_t\) and \( gap_{t+1|t}\)), and the
forecast of the three-quarter-ahead annual change in the output gap (\( \Delta^4gap_{t+3|t}\)). The
value of policymakers' long-run inflation objective, denoted \( \pi^*\), is 2 percent. The nominal
income targeting rule responds to the nominal income gap, which is defined as the difference between
nominal income \( yn_t\) (100 times the log of the level of nominal GDP) and a target value \( yn^*_t\)
(100 times the log of target nominal GDP). Target nominal GDP in 2007:Q4 is set equal to potential real
GDP in that quarter multiplied by the GDP deflator in that quarter; subsequently, target nominal GDP grows
2 percentage points per year faster than potential GDP.
T a y lo r (1993) ru le
\( R_t = 2+\pi_t+0.5(\pi_t-\pi^*)+0.5gap_t\)
T a y lo r (1999) ru le
\( R_t = 2+\pi_t+0.5(\pi_t-\pi^*)+gap_t\)
In ertia l T a y lo r (1999) rule
\( R_t = 0.85R_{t-1}+0.15\left(2+\pi_t+0.5(\pi_t-\pi^*)+gap_t\right)\)
\
(
R
_
t
=
O u tco m e -b a sed rule
1.2R_{t-1}-0.39R_{t-2}+0.19[0.54+1.73\pi_t+3.66gap_t-2.72gap_{t-1}]\)
F irst-d iffere n c e rule
\( R_t =R_{t-1}+0.5(\pi_{t+3|t}-\pi^*)+0.5\Delta^4gap_{t+3|t}\)
N o m in a l in c o m e ta r g etin g rule
\( R_t = 0.75R_{t-1}+0.25(2+\pi_t+yn_t-yn^*_t)\)
The first two of the selected rules were studied by Taylor (1993, 1999), while the inertial
Taylor (1999) rule has featured prominently in recent analysis by Board staff.1 The outcomebased rule uses policy reactions estimated using real-time data over the sample
1988:Q1-2006:Q4. The intercept of the outcome-based rule was chosen so that it is consistent
with a 2 percent long-run inflation objective and a long-run real interest rate of 2 percent, a value
used in the FRB/US model.2 The intercepts of the Taylor (1993, 1999) rules, and the long-run
intercept of the inertial Taylor (1999) rule, are set at 2 percent for the same reason. The 2 percent
1 See Erceg and others (2012).
2For the January 2013 Tealbook, the staff revised the long-run value of the real interest rate from
2 V percent to 2 percent. The FRB/US model as well as the intercepts of the different policy rules have
been adjusted to reflect this change.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
real rate estimate also enters the long-run intercept of the nominal income targeting rule. The
prescriptions of the first difference rule do not depend on the level of the output gap or the longrun, quarterly real interest rate; see Orphanides (2003).
Near-term prescriptions from these rules are calculated using Tealbook projections for
inflation and the output gap. The inertial Taylor (1999) rule, the first-difference rule, the
estimated outcome-based rule, and the nominal income targeting rule include the lagged policy
rate as a right-hand-side variable. When the Tealbook is published early in the quarter, the lines
denoted “Previous Tealbook” report rule prescriptions based on the previous Tealbook’s staff
outlook, jumping off from the actual value of the lagged funds rate in the previous quarter. When
the Tealbook is published late in the quarter, the lines denoted “Previous Tealbook Outlook”
report rule prescriptions based on the previous Tealbook’s staff outlook, but jumping off from the
average value for the policy rate thus far this quarter.
REFERENCES
Erceg, Christopher, Jon Faust, Michael Kiley, Jean-Philippe Laforte, David LópezSalido, Stephen Meyer, Edward Nelson, David Reifschneider, and Robert Tetlow (2012). “An
Overview of Simple Policy Rules and Their Use in Policymaking in Normal Times and Under
Current Conditions.” Memo sent to the Committee on July 18, 2012.
Explanatory Notes
Erceg, Christopher, Michael Kiley, and David López-Salido (2011). “Alternative
Monetary Policy Frameworks.” Memo sent to the Committee on October 6, 2011.
McCallum, Bennett T., and Edward Nelson (1999). “Nominal Income Targeting in an
Open-Economy Optimizing Model,” Journal of Monetary Economics, Vol. 43 (June), pp. 553–
578.
Orphanides, Athanasios (2003). “Historical Monetary Policy Analysis and the Taylor
Rule,” Journal of Monetary Economics, Vol. 50 (July), pp. 9831022.
Taylor, John B. (1993). “Discretion versus Policy Rules in Practice,” Carnegie-Rochester
Conference Series on Public Policy, Vol. 39 (December), pp. 195214.
Taylor, John B. (1999). “A Historical Analysis of Monetary Policy Rules,” in John B.
Taylor, ed., Monetary Policy Rules. University of Chicago Press, pp. 319341.
48 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
B. Estimates of the Equilibrium and Actual Real Rates
An estimate of the equilibrium real rate appears as a memo item in the first exhibit,
“Policy Rules and the Staff Projection.” The concept of the short-run equilibrium real rate
underlying the estimate corresponds to the level of the real federal funds rate that is consistent
with output reaching potential in twelve quarters using the projection for the economy of
FRB/US, the staff’s large-scale econometric model of the U.S. economy. This estimate depends
on a very broad array of economic factors, some of which take the form of projected values of the
model’s exogenous variables. The estimate reported is the “Tealbook-consistent” estimate of r*,
which is generated after the paths of exogenous variables in the FRB/US model are adjusted so
that they match those in the extended Tealbook forecast. Model simulations then determine the
value of the real federal funds rate that closes the output gap conditional on the exogenous
variables in the extended baseline forecast.
Explanatory Notes
The estimated actual real federal funds rate reported in the exhibit is constructed as the
difference between the federal funds rate and the trailing four-quarter change in the core PCE
price index. The federal funds rate is specified as the midpoint of the target range for the federal
funds rate on the Tealbook Book B publication date.
49 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
C. FRB/US Model Simulations
Explanatory Notes
The exhibits of “Monetary Policy Strategies” that report results from simulations of
alternative policies are derived from dynamic simulations of the FRB/US model. The simulated
policy rule is assumed to be in force over the whole period covered by the simulation. For the
optimal control simulations, the dotted line labeled “Previous Tealbook” is derived from the
optimal control simulations, when applied to the previous Tealbook projection.
50 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
D. Long-Run Projections of the Balance Sheet and Monetary Base
This explanatory note presents the assumptions underlying the projections provided in the
section titled “Long-Run Projections of the Balance Sheet and Monetary Base,” as well as
projections for each major component of the balance sheet.
GENERAL ASSUMPTIONS
The balance sheet projections are constructed at a monthly frequency from January 2013
to December 2025. The few balance sheet items that are not discussed below are assumed to be
constant over the projection period at the level observed on December 31, 2012. The projections
for all major asset and liability categories under each scenario are summarized in the tables that
follow the bullet points.
Explanatory Notes
The Tealbook projections for the scenario corresponding to Alternative B assume that the
target federal funds rate begins to increase in December 2015. This date of liftoff is consistent
with the current staff economic forecast and the thresholds described in the December 2012
FOMC statement, and it is two months later than assumed in the balance sheet projections for
Alternative B in the December Tealbook. The projections for the scenario corresponding to
Alternative A assume the target federal funds rate lifts off in July 2016, consistent with the
thresholds described in the proposed Alternative A statement language and seven months later
than in Alternative B. The projections for the scenario corresponding to Alternative C assume the
target federal funds rate lifts off in December 2014, a year earlier than in Alternative B. In each
case, the balance sheet projections assume that no use of short-term draining tools is necessary to
achieve the projected path for the target federal funds rate.3
3
If term deposits or reverse repurchase agreements were used to drain reserves prior to raising the
federal funds rate, the composition of liabilities would change: Increases in term deposits and reverse
repurchase agreements would be matched by corresponding declines in reserve balances. Presumably,
these draining tools would be wound down as the balance sheet returns to its steady state growth path, so
that the projected paths for Treasury securities presented here remain valid.
51 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
ASSETS
Explanatory Notes
Treasury Securities, Agency Mortgage-Backed Securities (MBS), and Agency Debt
Securities
The assumptions under Alternative B are:
o The Committee is assumed to continue purchases of Treasury securities at a pace of
$45 billion per month and purchases of MBS at a pace of $40 billion per month
through June. The Treasury securities purchased are assumed to have an average
duration of about nine years. The purchases between October 2012 and June 2013
expand the SOMA portfolio’s holdings of longer-term securities by about $750
billion.
o The FOMC continues to reinvest the proceeds from principal payments on its agency
securities holdings in agency MBS.
o Starting in June 2015—six months prior to the assumed increase in the target federal
funds rate—all securities are allowed to roll off the portfolio as they mature or
prepay.
o The Federal Reserve begins to sell agency MBS and agency debt securities in June
2016, six months after the assumed date of the first increase in the target federal
funds rate. Holdings of agency securities are reduced over five years and reach zero
by May 2021.
o For agency MBS, the rate of prepayment is based on staff models using estimates of
housing market factors from one of the Desk’s analytical providers, long-run average
prepayment speeds of MBS, and interest rate projections from the Tealbook.4 The
projected rate of prepayment is sensitive to these underlying assumptions.
In the scenario corresponding to Alternative A, the Committee is assumed to increase the
monthly pace of purchases to $55 billion of longer-term Treasury securities and $45
billion of MBS from February through June 2013. After June 2013, the pace of
purchases slows, and purchases end in December 2013. The Treasury securities
purchased are assumed to have an average duration of about nine years. These purchases
expand the SOMA portfolio’s holdings of longer-term securities by $1.25 trillion
between October 2012 and December 2013. In addition, the Committee is assumed to
maintain its existing policy of reinvesting principal payments from its holdings of agency
debt and agency MBS in agency MBS. In January 2016, six months prior to the assumed
increase in the target federal funds rate in July 2016, principal payments from all
securities are allowed to roll off the portfolio. Sales of agency securities begin in January
2017 and continue for five years.
In the scenario corresponding to Alternative C, the Committee is assumed decrease the
monthly pace of purchases to $25 billion of longer-term Treasury securities and $20
4
Projected prepayments of agency MBS reflect interest rate projections as of January 22, 2013.
52 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Because current and expected interest rates in the near term are below the average coupon
rate on outstanding Treasury securities, the market value at which these securities are
purchased will generally exceed their face value, with a larger premium for longermaturity securities. As a result, in Alternatives A, B, and C, premiums are boosted by
roughly $38 billion, $24 billion, and $6 billion, respectively, by the time asset purchases
end relative to a scenario without these Treasury securities purchases. The increase in
premiums is reflected in higher total assets and in higher reserve balances.
The asset purchases under all three alternatives put downward pressure on market interest
rates, in particular primary and secondary mortgage rates.
The current and near-term market values of new agency MBS purchases are assumed to
be four percent above face value. As a result, for Alternatives A, B, and C, the $572
billion, $360 billion, and $230 billion of agency MBS purchases, respectively, will cause
unamortized premiums on the Federal Reserve’s balance sheet to rise by roughly $23
billion, $14 billion, and $9 billion, respectively, relative to a scenario without these MBS
purchases. The increase in premiums is reflected in higher total assets and in higher
reserve balances.
The level of central bank liquidity swaps is assumed to decline, as draws under the recent
foreign central bank swap auctions mature, and is assumed to return to zero in 2014.
In all three scenarios, once reserve balances drop to $25 billion, the Desk begins to
purchase Treasury bills to maintain this level of reserve balances going forward.
Purchases of bills continue until such securities comprise one-third of the Federal
Reserve’s total Treasury securities holdings—about the average share prior to the crisis.
Once this share is reached, the Federal Reserve buys coupon securities in addition to bills
to maintain an approximate composition of the portfolio of one-third bills and two-thirds
coupon securities.
Liquidity Programs and Credit Facilities
Credit through the Term Asset-Backed Securities Loan Facility (TALF) declines to zero
by the end of 2015, reflecting loan maturities and prepayments.
53 of 59
Explanatory Notes
billion MBS in February and March 2013. After March 2013, the pace of purchases
slows further, and purchases end in June 2013. The Treasury securities purchased are
assumed to have an average duration of about nine years. These purchases expand the
SOMA portfolio’s holdings of longer-term securities by $500 billion between October
2012 and June 2013. The FOMC continues to reinvest the proceeds from principal
payments on its agency securities holdings in agency MBS until June 2014—six months
prior to the assumed increase in the target federal funds rate under this alternative.
Starting in June 2014, all securities are allowed to roll off the portfolio as they mature or
prepay. The Federal Reserve begins to sell agency MBS and agency debt securities in
June 2015. Holdings of agency securities are reduced over five years and reach zero by
May 2020.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
The assets held by TALF LLC decline from about $1 billion currently to zero in 2015.
Assets held by TALF LLC consist of investments of commitment fees collected by the
LLC and the U.S. Treasury’s initial funding. On January 15, the Board of Governors
approved the elimination of the U.S. Treasury's funding commitment and the repayment
of the initial funding amount plus accrued interest. Additionally, the Board of Governors
approved the disbursement of contingent interest payments from TALF LLC to Treasury
and FRBNY that equal, approximately, the excess of the TALF LLC cash balance over
the amount of outstanding TALF loans. The first payment occurs in February, and
payments will continue as TALF loans are repaid. In this projection, the LLC is assumed
not to purchase any asset-backed securities. (It would have to make such purchases if an
asset-backed security were received by the Federal Reserve Bank of New York in
connection with a decision of a borrower not to repay a TALF loan.)
The assets held by Maiden Lane LLC decline to zero in 2016.
Explanatory Notes
LIABILITIES AND CAPITAL
Federal Reserve notes in circulation grow in line with the staff forecast for money stock
currency through 2015. Afterwards, Federal Reserve notes in circulation grow at the
same rate as nominal GDP in the extended Tealbook projection.
The level of reverse repurchase agreements (RRPs) is assumed to be around $70 billion,
about the average level of RRPs associated with foreign official and international
accounts observed over the past three years.
Balances held in the U.S. Treasury’s General Account (TGA) follow recent patterns until
the assumed initial increase in the target federal funds rate in each alternative. At that
point, the TGA drops back to its historical target level of $5 billion as it is assumed that
the Treasury will implement a new cash management system and invest funds in excess
of $5 billion. The TGA remains constant at $5 billion over the remainder of the forecast
period.
Federal Reserve capital grows 15 percent per year, in line with the average rate of the
past ten years.5
In general, increases in the level of Federal Reserve assets are matched by higher levels
of reserve balances. All else equal, increases in the levels of liability items, such as
Federal Reserve notes in circulation or other liabilities, or increases in the level of
Reserve Bank capital, drain reserve balances. When increases in these liability or capital
items would otherwise cause reserve balances to fall below $25 billion, purchases of
Treasury securities are assumed in order to maintain that level of reserve balances.
5
The annual growth rate of capital affects the date of normalization of the size of the balance sheet
and the size of the SOMA portfolio. Growth in Reserve Bank capital has been modest over the past two
years; however, even if Federal Reserve capital were assumed to be constant, normalization only would be
pushed later by about a quarter.
54 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
In the event that a Federal Reserve Bank’s earnings fall short of the amount necessary to
cover operating costs, pay dividends, and equate surplus to capital paid-in, a deferred
asset would be recorded. This deferred asset is reported on the liability side of the
balance sheet as “Interest on Federal Reserve notes due to U.S. Treasury.” This liability
takes on a positive value when weekly cumulative earnings have not yet been distributed
to the Treasury and takes on a negative value when earnings fall short of the expenses
listed above. The alternatives do not presently record a deferred asset.
TERM PREMIUM EFFECTS
6
Under Alternative A, the term premium effect on the yield of the ten-year Treasury note
is negative 117 basis points in the current quarter. The effect wanes over time as the
length of time the securities will be held by the Federal Reserve shortens and as securities
subsequently roll off the portfolio or are sold until the size of the portfolio is normalized.
Under Alternative B, the contemporaneous term premium effect is negative 109 basis
points. This estimate is between the term premium effect associated with a $1.25 trillion
purchase program and the term premium effect associated with a $750 billion purchase
program. Over the first half of this year, as market participants come to realize that the
purchases will end in June, the term premium effect converges to one associated with a
$750 billion purchase program. Over the remainder of the projection period, the term
premium effect declines slowly toward zero, reflecting the actual and anticipated
normalization of the portfolio.
Under Alternative C, the term premium effect is negative 80 basis points. The effect is
less negative than in Alternative B because there are fewer securities purchases in 2013
and the liftoff date is earlier so asset sales begin sooner than under Alternatives B and A.
6
Staff estimates include all current and projected asset purchases and use the model outlined in the
appendix of the memo titled “Possible MBS Large-Scale Asset Purchase Program” written by staff at the
Federal Reserve Bank of New York and the Board of Governors and sent to the Committee on January 18,
2012. More details of the model can be found in “Term Structure Modeling with Supply Factors and the
Federal Reserve’s Large Scale Asset Purchase Programs” by Li and Wei, FEDS working paper #37, 2012.
55 of 59
Explanatory Notes
January 24, 2013
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
10-Year Treasury Term Premium Effect
Explanatory Notes
Date
Alternative B Alternative A
2013 Q1
2013 Q2
2013 Q3
2013 Q4
2014 Q1
2014 Q2
2014 Q3
2014 Q4
2015 Q1
2015 Q2
2015 Q3
2015 Q4
-109
-99
-88
-83
-78
-73
-68
-63
-59
-54
-50
-46
2016 Q4
2017 Q4
2018 Q4
2019 Q4
2020 Q4
2021 Q4
2022 Q4
2023 Q4
2024 Q4
2025 Q4
-32
-21
-15
-12
-10
-9
-8
-6
-5
-3
Alternative C
Basis Points
Quarterly Averages
-117
-114
-110
-104
-99
-93
-88
-82
-77
-72
-66
-62
-44
-30
-21
-15
-12
-11
-9
-7
-5
-4
56 of 59
December
Alternative B
-80
-75
-71
-66
-61
-57
-53
-48
-44
-40
-37
-33
-104
-94
-83
-78
-73
-69
-64
-59
-55
-51
-47
-43
-22
-15
-11
-10
-9
-9
-7
-6
-4
-3
-29
-20
-14
-11
-10
-9
-8
-6
-4
-3
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Federal Reserve Balance Sheet
End-of-Year Projections -- Jan TB Alt B
Billions of dollars
Dec 31, 2012
Total assets
2013
2015
2017
2019
2021
2023
2025
2,919 3,541 3,431 2,546 1,869 2,068 2,303 2,569
Selected assets
Liquidity programs for financial firms
9
8
0
0
0
0
0
0
Primary, secondary, and seasonal credit
0
0
0
0
0
0
0
0
Central bank liquidity swaps
9
8
0
0
0
0
0
0
Term Asset-Backed Securities Loan Facility (TALF)
1
0
0
0
0
0
0
0
Net portfolio holdings of Maiden Lane LLC,
Maiden Lane II LLC, and Maiden Lane III LLC
1
1
0
0
0
0
0
0
Securities held outright
2,670 3,267 3,201 2,361 1,722 1,946 2,190 2,464
1,666 1,930 1,927 1,549 1,384 1,946 2,190 2,464
Agency debt securities
77
Agency mortgage-backed securities
Net portfolio holdings of TALF LLC
Total other assets
Total liabilities
57
33
4
2
0
0
0
927 1,279 1,241
808
335
0
0
0
1
1
0
0
0
0
0
0
237
264
230
185
147
122
113
105
2,864 3,478 3,348 2,436 1,723 1,876 2,048 2,232
Selected liabilities
Federal Reserve notes in circulation
1,127 1,196 1,348 1,481 1,608 1,761 1,933 2,117
Reverse repurchase agreements
70
70
70
70
70
70
1,618 2,202 1,920
877
36
36
36
36
1,492 2,102 1,908
865
25
25
25
25
107
Deposits with Federal Reserve Banks
Reserve balances held by depository institutions
70
U.S. Treasury, General Account
93
93
5
5
5
5
5
5
Other Deposits
34
6
6
6
6
6
6
6
2
0
0
0
0
0
0
0
55
63
83
110
146
192
255
337
Interest on Federal Reserve Notes due
to U.S. Treasury
Total capital
Source: Federal Reserve H.4.1 statistical releases and staff calculations.
Note: Components may not sum to totals due to rounding.
57 of 59
Explanatory Notes
U.S. Treasury securities
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Federal Reserve Balance Sheet
End-of-Year Projections -- Jan TB Alt A
Billions of dollars
Dec 31, 2012
Total assets
2013
2015
2017
2019
2021
2023
2025
2,919 4,018 4,013 3,136 1,879 2,068 2,300 2,568
Selected assets
Liquidity programs for financial firms
9
8
0
0
0
0
0
0
Primary, secondary, and seasonal credit
0
0
0
0
0
0
0
0
Central bank liquidity swaps
9
8
0
0
0
0
0
0
Term Asset-Backed Securities Loan Facility (TALF)
1
0
0
0
0
0
0
0
Net portfolio holdings of Maiden Lane LLC,
Maiden Lane II LLC, and Maiden Lane III LLC
1
1
0
0
0
0
0
0
Securities held outright
2,670 3,719 3,758 2,929 1,716 1,938 2,181 2,457
U.S. Treasury securities
1,666 2,208 2,208 1,824 1,163 1,938 2,181 2,457
Agency debt securities
77
Agency mortgage-backed securities
Net portfolio holdings of TALF LLC
Explanatory Notes
Total other assets
Total liabilities
57
33
4
2
0
0
0
927 1,453 1,517 1,101
550
0
0
0
1
1
0
0
0
0
0
0
237
289
255
207
164
130
119
110
2,864 3,955 3,930 3,026 1,734 1,876 2,045 2,231
Selected liabilities
Federal Reserve notes in circulation
1,127 1,196 1,348 1,491 1,614 1,760 1,929 2,115
Reverse repurchase agreements
70
70
70
70
70
1,618 2,677 2,500 1,454
40
36
36
36
1,492 2,577 2,401 1,443
28
25
25
25
107
Deposits with Federal Reserve Banks
Reserve balances held by depository institutions
70
70
U.S. Treasury, General Account
93
93
93
5
5
5
5
5
Other Deposits
34
6
6
6
6
6
6
6
2
0
0
0
0
0
0
0
55
63
83
110
146
192
255
337
Interest on Federal Reserve Notes due
to U.S. Treasury
Total capital
Source: Federal Reserve H.4.1 statistical releases and staff calculations.
Note: Components may not sum to totals due to rounding.
58 of 59
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
January 24, 2013
Federal Reserve Balance Sheet
End-of-Year Projections -- Jan TB Alt C
Billions of dollars
Dec 31, 2012
Total assets
2013
2015
2017
2019
2021
2023
2025
2,919 3,262 2,970 2,115 1,869 2,068 2,303 2,569
Selected assets
Liquidity programs for financial firms
9
8
0
0
0
0
0
0
Primary, secondary, and seasonal credit
0
0
0
0
0
0
0
0
Central bank liquidity swaps
9
8
0
0
0
0
0
0
Term Asset-Backed Securities Loan Facility (TALF)
1
0
0
0
0
0
0
0
Net portfolio holdings of Maiden Lane LLC,
Maiden Lane II LLC, and Maiden Lane III LLC
1
1
0
0
0
0
0
0
Securities held outright
2,670 3,011 2,766 1,952 1,738 1,954 2,197 2,470
1,666 1,800 1,797 1,435 1,648 1,954 2,197 2,470
Agency debt securities
77
Agency mortgage-backed securities
Net portfolio holdings of TALF LLC
Total other assets
Total liabilities
57
33
4
2
0
0
0
927 1,153
936
512
88
0
0
0
1
1
0
0
0
0
0
0
237
241
203
163
130
114
106
99
2,864 3,199 2,886 2,005 1,723 1,876 2,048 2,232
Selected liabilities
Federal Reserve notes in circulation
1,127 1,196 1,348 1,481 1,608 1,761 1,933 2,117
Reverse repurchase agreements
70
70
70
70
70
70
1,618 1,922 1,458
445
36
36
36
36
1,492 1,823 1,446
434
25
25
25
25
107
Deposits with Federal Reserve Banks
Reserve balances held by depository institutions
70
U.S. Treasury, General Account
93
93
5
5
5
5
5
5
Other Deposits
34
6
6
6
6
6
6
6
2
0
0
0
0
0
0
0
55
63
83
110
146
192
255
337
Interest on Federal Reserve Notes due
to U.S. Treasury
Total capital
Source: Federal Reserve H.4.1 statistical releases and staff calculations.
Note: Components may not sum to totals due to rounding.
59 of 59
Explanatory Notes
U.S. Treasury securities
Cite this document
APA
Federal Reserve (2013, January 29). Greenbook/Tealbook. Greenbooks, Federal Reserve. https://whenthefedspeaks.com/doc/greenbook_20130130_part2
BibTeX
@misc{wtfs_greenbook_20130130_part2,
author = {Federal Reserve},
title = {Greenbook/Tealbook},
year = {2013},
month = {Jan},
howpublished = {Greenbooks, Federal Reserve},
url = {https://whenthefedspeaks.com/doc/greenbook_20130130_part2},
note = {Retrieved via When the Fed Speaks corpus}
}