greenbooks · September 16, 2014
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 01/10/2020.
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
September 11, 2014
Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System
Authorized for Public Release
(This page is intentionally blank.)
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
The top panel of the first exhibit, “Policy Rules and the Staff Projection,”
provides near-term prescriptions for the federal funds rate from six different policy rules:
the Taylor (1993) rule, the Taylor (1999) rule, an inertial version of the Taylor (1999)
rule, an outcome-based rule, a first-difference rule, and a nominal income targeting rule.1
These prescriptions take as given the staff’s baseline projections for real activity and
inflation in the near term. (Medium-term prescriptions derived from dynamic simulations
of the rules are discussed below.) As shown in the table, the Taylor (1993) rule, the
Taylor (1999) rule, and the outcome-based rule all call for sizable increases in the federal
funds rate over the next two quarters. The inertial Taylor (1999) rule and the firstdifference rule prescribe smaller increases in the federal funds rate in the near term, to
just below ¾ percent by the first quarter of 2015. In contrast, the nominal income
targeting rule calls for negative policy rates in the near term. This more-accommodative
prescription arises because the rule responds not only to the staff’s estimates of the output
gap and inflation in the current quarter but also is calibrated to respond to the cumulative
shortfall of inflation from the Committee’s 2 percent longer-run objective since the end
of 2007; currently, this cumulative shortfall is about 3 percentage points.
All of the simple rules call for somewhat lower policy rates in the near term than
under the previous Tealbook forecast, reflecting the staff’s projections of somewhat
lower resource utilization and slightly lower inflation than in the July Tealbook. The
revisions in the output gap projections, shown in the lower-left panel of the exhibit,
reflect the staff’s view that, while the growth of real GDP was not quite as slow in the
first half of 2014 as estimated in July, growth in economic activity is likely to be weaker
in the medium term than predicted in July due to a stronger dollar and modestly slower
house price growth. The staff now anticipates that the output gap will close by mid-2016,
three quarters later than in the July Tealbook, and that real GDP will subsequently
overshoot potential GDP by considerably less than projected in July. The output gap is
expected to peak at about ¾ percent of potential GDP in 2017 and then decline thereafter.
Reflecting these projections of lower resource utilization, the staff’s forecast for core
1
The appendix to this section provides details on each of the six rules.
Page 1 of 54
Strategies
Monetary Policy Strategies
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Policy Rules and the Staff Projection
Strategies
Near-Term Prescriptions of Selected Policy Rules
2014Q4
2015Q1
Taylor (1993) rule
Previous Tealbook
2.39
2.66
2.66
3.04
Taylor (1999) rule
Previous Tealbook
1.73
2.16
2.09
2.73
Inertial Taylor (1999) rule
Previous Tealbook outlook
0.37
0.43
0.63
0.77
Outcome-based rule
Previous Tealbook outlook
0.68
0.84
1.26
1.66
First-difference rule
Previous Tealbook outlook
0.47
0.77
0.72
1.23
Nominal income targeting rule
Previous Tealbook outlook
−0.22
−0.16
−0.41
−0.26
Memo: Equilibrium and Actual Real Federal Funds Rates
Tealbook-consistent FRB/US r* estimate
Actual real federal funds rate
Current
Tealbook
Previous
Tealbook
−0.85
−1.34
−0.29
−1.31
Key Elements of the Staff Projection
GDP Gap
PCE Prices ex. Food and Energy
Percent
Current Tealbook
Previous Tealbook
2
Four-quarter percent change
1
0
0
-1
-1
-2
-2
-3
-3
2014
2015
2016
2017
2.5
2.0
2.0
1.5
1.5
2
1
-4
2.5
2018
2019
2020
-4
1.0
2014
2015
2016
2017
2018
2019
2020
1.0
Note: The lines denoted "Previous Tealbook outlook" in the upper panel report rule prescriptions based on the previous
Tealbook’s staff outlook using the current rule specifications. Rules that have the lagged policy rate as a right-hand-side
variable jump off from the average value of the policy rate thus far in the current quarter.
Page 2 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
inflation, shown in the lower-right panel of the exhibit, settles near 2 percent in 2020, two
The top panel of the first exhibit also reports the Tealbook-consistent estimate of
the equilibrium real federal funds rate, r*, generated using the FRB/US model after
adjusting it to reproduce the staff’s baseline forecast. This measure is an estimate of the
real federal funds rate that would, if maintained, return output to potential in 12 quarters.
The estimated r*, at –0.85 percent, is about 50 basis points above the actual real federal
funds rate but 60 basis points below the current-quarter estimate as of the July Tealbook,
reflecting the staff’s new, lower, projection of resource utilization.
The second exhibit, “Policy Rule Simulations,” reports dynamic simulations of
the FRB/US model under each of the policy rules. These simulations reflect the
endogenous responses of inflation and the output gap when the federal funds rate follows
the paths implied by the different policy rules, under the assumption that the federal
funds rate is subject to an effective lower bound of 12½ basis points. The exhibit also
displays the implications of following the baseline policy assumptions adopted in this
Tealbook.2 In forming the Tealbook baseline forecast, the staff has assumed that the
federal funds rate would remain at its effective lower bound for two quarters after the end
of the asset purchase program, and subsequently would follow the prescriptions of the
inertial Taylor (1999) rule. The two-quarter lag between the assumed end of asset
purchases and the first increase in the baseline path for the federal funds rate is intended
to reflect the Committee’s forward guidance, reaffirmed in its July statement, that “it
likely will be appropriate to maintain the current target range for the federal funds rate for
a considerable time after the asset purchase program ends.” As in the July projections,
the first rate hike under the baseline policy occurs in the second quarter of 2015.
Thereafter, the federal funds rate increases gradually over the next few years, reaching
2 percent in mid-2016 and 4 percent by the end of 2019. In contrast to the Tealbook
baseline, the simulations employing the six policy rules make no attempt to account for
the Committee’s forward guidance regarding the start of policy firming. (Policy rule
simulations that take account of this guidance are discussed below.)
The policy rule simulations discussed here and below incorporate the macroeconomic effects of
the FOMC’s large-scale asset purchase programs. For the current program, the simulations embed the
assumption that purchases of longer-term Treasury securities and agency MBS will conclude in October,
with cumulative purchases since the start of 2013 close to $1.5 trillion.
2
Page 3 of 54
Strategies
years later than in the July Tealbook.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Strategies
Policy Rule Simulations
Effective Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
Taylor (1993) rule
Taylor (1999) rule
Inertial Taylor (1999) rule
Outcome-based rule
Nominal income targeting rule
First-difference rule
Tealbook baseline
7
6
5
7
3
3
2
2
1
1
0
0
-1
-1
6
5
4
4
3
3
2
2
1
1
0
0
-1
Percent
2014
2015
2016
2017
2018
2019
2020
-1
-2
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-2
PCE Inflation
Percent
7
7
3.0
Percent
3.0
Four-quarter average
Staff’s estimate of the natural rate
6
6
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
5
5
4
4
2014
2015
2016
2017
2018
2019
2020
0.0
2014
2015
2016
2017
2018
2019
2020
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.
Page 4 of 54
0.0
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Ignoring the forward guidance, five of the rules—the Taylor (1993),
tightening to begin immediately. Except for the inertial Taylor (1999) rule, each of these
rules prescribes a real federal funds rate path that lies significantly above the baseline
over the next few years, leading to somewhat higher unemployment rates over that
period. Reflecting the low sensitivity of inflation to slack in the FRB/US model, the
inflation paths produced by these rules are similar to those in the Tealbook baseline.3
The inertial Taylor (1999) rule calls for tightening to commence two quarters earlier than
in the Tealbook baseline, but its prescriptions for the federal funds rate converge to those
in the staff baseline by mid-2016 and are nearly identical thereafter. As a result, this rule
results in very similar longer-term interest rates and macroeconomic outcomes.
The first-difference rule also initially implies a higher nominal funds rate than the
baseline. However, the effect on unemployment of this more-rapid tightening is
attenuated because the first-difference rule also calls for an easier stance of policy later in
the decade, as the pace of economic activity moderates, than do the other rules. After
2017, the more-accommodative monetary policy stance also promotes a larger and morepersistent undershooting of the unemployment rate with respect to its natural rate than
most of the other rules; this greater resource utilization in the future in turn boosts
inflation in the shorter run via forward-looking expectations.
The nominal income targeting rule implies a later departure from the effective
lower bound than assumed in the Tealbook baseline. This rule keeps the federal funds
rate within the Committee’s current target range until the first quarter of 2016 and
generates a real federal funds rate that runs persistently below the baseline path for the
rest of the decade, thereby leading to stronger real activity. Under this rule, inflation is
closer to the Committee’s objective than in the Tealbook baseline through 2018, but it
runs modestly above 2 percent for several years thereafter, as the rule seeks to
compensate for the cumulative shortfall of inflation from 2 percent since the end of 2007.
Long-term inflation expectations in all of these simulations are assumed to follow the same
trajectory as in the staff baseline. The small differences in inflation outcomes across the rules reflect the
different federal funds rate paths that each rule prescribes and the resulting paths for longer-term real rates
and current and expected real activity. For alternative assumptions on long-term inflation expectations and
their implications, see the memo, “Long-Term Inflation Expectations and Risks to the Outlook,” by
Thomas Laubach, John M. Roberts, Jae W. Sim, and Brad E. Strum, sent to the Committee on September 5,
2014.
3
Page 5 of 54
Strategies
Taylor (1999), inertial Taylor (1999), outcome-based, and first-difference rules—call for
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
The results for each rule presented in these and subsequent simulations depend
Strategies
importantly on the assumptions that policymakers will adhere to that rule in the future
and that the private sector fully understands the policy that will be pursued and its
implications for real activity and inflation. These assumptions play a particularly critical
role in the case of the nominal income targeting rule, which generates outcomes in which
unemployment runs markedly below the staff’s estimate of the natural rate even after
inflation has moved above the Committee’s longer-run goal.
As previously noted, the policy rules in the simulations summarized above do not
take into account the Committee’s forward guidance, and all but one of these rules
involve departures from the effective lower bound about two quarters earlier than in the
staff baseline. The third exhibit, “Policy Rule Simulations with an Unemployment Rate
Threshold,” reports results obtained when each policy rule is subject to an unemployment
rate threshold that is intended to capture the Committee’s “considerable time” guidance
in a data-dependent manner. A threshold of 5.8 percent was chosen because, in the
Tealbook baseline, the unemployment rate crosses that level in the quarter before firming
begins.4 (The same unemployment rate threshold is adopted in the alternative scenarios
shown in the Risks and Uncertainty section of Tealbook, Book A.) Financial market
participants and price- and wage-setters are assumed to understand that the Committee
will switch to the specified rule in the quarter following the crossing of the threshold, and
to view this switch as permanent and fully credible.
Imposing the unemployment threshold affects all of the rules except the nominal
income targeting rule; for the other rules, the first increase in the federal funds rate is
delayed by two quarters and occurs in the second quarter of 2015, as in the Tealbook
baseline. For most rules, the delayed departure from the effective lower bound has small
macroeconomic effects because the longer-term real rates that influence economic
activity in the FRB/US model are not appreciably altered. Only for the first-difference
rule does the threshold imply significantly different outcomes for unemployment and
inflation. Imposing the unemployment rate threshold on the first-difference rule results
in a more-accommodative policy path, delivering a lower trajectory for unemployment
throughout the projection period and slightly higher inflation than in the case without the
threshold.
4
For the same reason, the unemployment rate threshold used in July was 5.6 percent.
Page 6 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Effective Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
Taylor (1993) rule
Taylor (1999) rule
Outcome-based rule
Nominal income targeting rule
First-difference rule
Tealbook baseline
7
6
7
3
3
2
2
1
1
0
0
-1
-1
6
5
5
4
4
3
3
2
2
1
1
0
0
-1
Percent
2014
2015
2016
2017
2018
2019
2020
-1
-2
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-2
PCE Inflation
Percent
7
7
3.0
Percent
3.0
Four-quarter average
Staff’s estimate of the natural rate
6
6
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
5
5
4
4
2014
2015
2016
2017
2018
2019
2020
0.0
2014
2015
2016
2017
2018
2019
2020
Note: The policy rule simulations in this exhibit keep the federal funds rate at an effective lower bound of 12½ basis
points as long as the unemployment rate is 5.8 percent or more. Thereafter, the federal funds rate follows the
prescriptions of the specified rule. A value of 5.8 percent was chosen because in the Tealbook baseline the
unemployment rate crosses that level just before firming begins. In addition, the simulations are based on rules
that respond to core inflation.
Page 7 of 54
0.0
Strategies
Policy Rule Simulations with an Unemployment Rate Threshold
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
The fourth exhibit, “Optimal Control Policy under Commitment,” compares
Strategies
optimal control simulations derived using this Tealbook’s baseline forecast with those
reported in July.5 Policymakers are assumed to place equal weights on 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 natural rate of unemployment, and on minimizing
changes in the federal funds rate. The optimal control concept presented here
corresponds to a commitment policy under which policymakers make decisions today
that have the effect of constraining policy choices in future periods.6
The policy rate under optimal control rises above the Committee’s current target
range next quarter—the first quarter of the projection. The real federal funds rate through
2020 averages about 1 percentage point lower than in July, largely reflecting the
somewhat weaker underlying trend in aggregate demand now seen in the staff projection.
The federal funds rate departs from the effective lower bound two quarters earlier than in
the Tealbook baseline. The real federal funds rate remains fairly close to the Tealbook
baseline until early 2017, runs around 30 basis points higher than the baseline for about
five years, but drops below the baseline in the distant future (not shown). As a result, the
two policies imply roughly the same degree of accommodation, and the unemployment
and inflation paths under the optimal control policy are similar to those in the baseline.7
A feature of these optimal control simulations under commitment is that the
nominal federal funds rate rises gradually to 4 percent before slowly converging to its
long-run value of 3¾ percent. The gradual increase reflects a number of factors, among
them adverse economic and financial conditions that imply that aggregate demand would
be persistently weak if the federal funds rate were to be adjusted promptly to its steadystate level, and the fact that the objective function assumed for these simulations
The optimal control 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 in footnote 2. These simulated policies do not incorporate the unemployment rate threshold.
6
The results for optimal control policy under discretion (in which policymakers cannot credibly
commit to carrying out a plan involving policy choices that would be suboptimal at the time these choices
have to be implemented) are similar to those reported in the exhibits for commitment.
7
These results depend on a number of factors and could vary under alternative modeling
assumptions, including asymmetries in the specification of policymakers’ preferences, the presence of
asymmetric risks to the outlook, and uncertainties in gauging economic slack. For more details, see the
memo, “Potential Implications of Alternative Approaches to the Timing and Pace of Tightening,” by
Christopher J. Erceg, Michael T. Kiley, and Robert J. Tetlow, sent to the Committee on September 5, 2014.
5
Page 8 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Effective Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
Current Tealbook
Previous Tealbook
Tealbook baseline
7
7
6
6
5
5
4
4
3
3
2
2
1
1
0
-1
Percent
3
3
2
2
1
1
0
0
-1
-1
0
2014
2015
2016
2017
2018
2019
2020
-1
-2
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
-2
PCE Inflation
Percent
7
7
3.0
Four-quarter average
Percent
3.0
Staff’s estimate of the natural rate
6
6
5
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
5
4
4
2014
2015
2016
2017
2018
2019
2020
0.0
Page 9 of 54
2014
2015
2016
2017
2018
2019
2020
0.0
Strategies
Optimal Control Policy under Commitment
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
penalizes changes in the federal funds rate and thereby encourages interest-rate
Strategies
smoothing.8
To ascertain the role played by interest-rate smoothing, the special exhibit,
“Optimal Control Policy under Commitment with Lower Weight on Interest-Rate
Smoothing,” compares these results with the outcomes from an alternative optimal
control simulation under commitment featuring a smaller penalty on the change in the
federal funds rate.9
With the smaller penalty, optimal control implies a policy in which the federal
funds rate is raised above the lower bound about one year later than in the standard case
but then rises more steeply. The resulting path of longer-term interest rates is slightly
above the standard case, as the effect of the higher level of the funds rate in the
intermediate term more than offsets the effect of the lower federal funds rate in the near
term. Because changes in federal funds rate policy in the FRB/US model are primarily
transmitted to aggregate demand via longer-term interest rates, unemployment in this
case runs a little above its trajectory in the standard case, although inflation is little
changed.
These results suggest that, in current circumstances, policies associated with
various degrees of interest-rate smoothing could serve equally well in achieving the
Committee’s dual mandate of price stability and maximum employment. It deserves
emphasis, however, that in practice the communication strategies associated with the two
In addition, the gradual increase reflects the fact that inflation responds only weakly to economic
conditions and depends on an exogenous measure of inflation expectations that remains below 2 percent far
into the next decade.
9
In the standard case, equal weights are placed on minimizing deviations of inflation and
unemployment from the Committee’s assumed objectives and on changes in the federal funds rate. The
inclusion of a desire for interest-rate smoothing in the assumed loss function could be motivated in several
ways. Such smoothing implies policy prescriptions that more closely resemble the observed persistence in
the actual federal funds rate in the past. More substantively, policymakers may put considerable weight on
interest-rate smoothing as a hedge against model uncertainty or out of concerns for not-perfectly-rational
expectations formation (such as learning behavior). In the case of low interest-rate smoothing, the weight
placed on changes in the funds rate is lowered to a level equal to 7½ percent of the weight on the inflation
and unemployment deviations. Lowering the weight further would lead to convergence problems for the
simulations of the FRB/US model.
8
Page 10 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Effective Nominal Federal Funds Rate
Real Federal Funds Rate
Percent
Equal weights on inflation,
unemployment, and
interest-rate smoothing
Lower weight on
interest-rate smoothing
Tealbook baseline
7
6
7
6
5
5
4
4
3
3
3
3
2
2
1
1
0
0
-1
-1
-2
3.0
2
2
1
1
0
0
-1
2014
2015
2016
2017
2018
2019
2020
-1
Percent
2014
2015
2016
2017
2018
2019
Real 10-year Treasury Yield
2020
-2
Percent
3.0
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
0.0
Unemployment Rate
2014
2015
2016
2017
2018
2019
2020
0.0
PCE Inflation
Percent
7
7
4.0
Percent
4.0
Four-quarter average
Staff’s estimate of the natural rate
6
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
6
5
5
4
4
2014
2015
2016
2017
2018
2019
2020
0.0
Page 11 of 54
2014
2015
2016
2017
2018
2019
2020
0.0
Strategies
Optimal Control Policy with Lower Weight on Interest-Rate Smoothing under Commitment
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
optimal control policies shown in the exhibit would likely need to be different, each
Strategies
presenting its own challenges.10
Arguably, an increase in the federal funds rate next quarter, as prescribed by the
standard optimal control simulation, would come as a substantial surprise to market
participants in light of the Committee’s “considerable time” guidance. Moreover, market
participants might misinterpret such an early tightening as a signal that the Committee
intends to pursue a more-restrictive monetary policy over the medium term than is
implied by the sequence of relatively modest policy-rate increases featured under the
optimal control policy. To avoid confusing market participants, the Committee might
well need to convey that an earlier-than-expected start of policy-rate firming would likely
be accompanied by a more-gradual-than-expected subsequent pattern of federal funds
rate increases. The somewhat later commencement of policy firming associated with the
optimal control policy under a lower weight on interest-rate smoothing could prove less
challenging to communicate, as the kind of forward guidance currently used by the
Committee might be well suited for such communication. However, if the Committee
planned to raise rates rapidly in its tightening phase, communication of this intention
would presumably be called for. If market participants were surprised by the more-rapid
increases depicted in this simulation, the adjustments in financial markets could
potentially be disorderly.11
The final two exhibits, “Outcomes under Alternative Policies” and “Outcomes
under Alternative Policies with an Unemployment Rate Threshold,” tabulate the
simulation results for key variables under each of the policy rules described above.
See also the memo, “Potential Implications of Alternative Approaches to the Timing and Pace
of Tightening,” by Christopher J. Erceg, Michael T. Kiley, and Robert J. Tetlow, sent to the Committee on
September 5, 2014.
11
Specifically, this policy implies increasing the federal funds rate by about 400 basis points over
a period of two years, as opposed to four years in the case with a substantial weight on interest-rate
smoothing. While the pace of increases under the more-gradual trajectory appears more aligned with
current market expectations, the pace of increases under the steeper policy-rate trajectory is similar to the
400 basis-point increase in the federal funds rate observed during the “measured pace” period from mid2004 to mid-2006.
10
Page 12 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Outcomes under Alternative Policies
2014
Measure and policy
H1
2015 2016 2017 2018
H2
Real GDP
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.1
1.1
1.1
1.1
1.1
1.1
1.1
1.1
2.9
2.9
2.9
2.9
2.9
2.9
2.9
2.9
2.7
2.2
2.2
2.6
2.3
2.6
3.2
2.6
2.9
2.8
2.8
2.9
2.7
2.9
3.5
2.8
2.3
2.4
2.4
2.3
2.3
2.4
2.6
2.3
1.9
2.1
2.1
1.9
2.1
2.1
1.9
1.9
Unemployment rate2
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
6.2
6.2
6.2
6.2
6.2
6.2
6.2
6.2
5.9
5.9
5.9
5.9
5.9
5.9
5.9
5.9
5.4
5.7
5.6
5.4
5.6
5.5
5.2
5.5
5.1
5.4
5.4
5.1
5.3
5.2
4.5
5.1
4.9
5.1
5.1
4.8
5.1
4.9
4.1
5.0
4.9
5.0
5.0
4.9
5.0
4.8
4.2
5.0
Total PCE prices
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.8
1.8
1.8
1.8
1.8
1.8
1.8
1.8
1.1
1.1
1.1
1.1
1.1
1.1
1.1
1.1
1.5
1.5
1.5
1.5
1.5
1.6
1.7
1.5
1.6
1.7
1.6
1.7
1.5
1.7
1.8
1.6
1.7
1.8
1.7
1.7
1.6
1.8
1.9
1.7
1.9
1.9
1.9
1.9
1.8
2.0
2.1
1.9
Core PCE prices
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.5
1.5
1.5
1.5
1.5
1.5
1.5
1.5
1.6
1.6
1.6
1.6
1.6
1.7
1.8
1.6
1.7
1.8
1.7
1.8
1.7
1.8
2.0
1.8
1.8
1.8
1.8
1.8
1.7
1.9
2.0
1.8
1.9
2.0
1.9
2.0
1.8
2.0
2.1
2.0
Effective nominal federal funds rate2
Extended Tealbook baseline1
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
2.4
1.7
0.4
0.7
0.5
0.1
0.3
1.1
2.7
2.3
1.3
2.3
1.7
0.1
1.2
2.3
3.4
3.4
2.4
3.3
3.1
1.0
2.4
3.3
3.7
3.9
3.2
3.9
3.5
2.0
3.4
3.8
4.0
4.1
3.7
3.9
3.6
2.6
3.9
1. In the Tealbook baseline, the federal funds rate first departs from an effective lower bound of 12½ basis points
two quarters after the end of the asset purchase program. Thereafter, the federal funds rate follows the prescriptions
of the inertial Taylor (1999) rule.
2. Percent, average for the final quarter of the period.
Page 13 of 54
Strategies
(Percent change, annual rate, from end of preceding period except as noted)
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Strategies
Outcomes under Alternative Policies
with an Unemployment Rate Threshold1
(Percent change, annual rate, from end of preceding period except as noted)
2014
Measure and policy
H1
2015 2016 2017 2018
H2
Real GDP
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.1
1.1
1.1
1.1
1.1
1.1
1.1
2.9
2.9
2.9
2.9
2.9
2.9
2.9
2.7
2.3
2.3
2.5
2.7
3.2
2.6
2.9
2.7
2.7
2.7
3.0
3.5
2.8
2.3
2.4
2.3
2.3
2.4
2.6
2.3
1.9
2.1
2.1
2.0
2.1
1.9
1.9
Unemployment rate2
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
6.2
6.2
6.2
6.2
6.2
6.2
6.2
5.9
5.9
5.9
5.9
5.9
5.9
5.9
5.4
5.6
5.6
5.5
5.4
5.2
5.5
5.1
5.3
5.3
5.3
5.0
4.5
5.1
4.9
5.1
5.1
5.1
4.7
4.1
5.0
4.9
5.0
5.0
5.0
4.7
4.2
5.0
Total PCE prices
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.8
1.8
1.8
1.8
1.8
1.8
1.8
1.1
1.1
1.1
1.1
1.1
1.1
1.1
1.5
1.5
1.5
1.5
1.6
1.7
1.5
1.6
1.6
1.6
1.6
1.8
1.8
1.6
1.7
1.7
1.7
1.6
1.9
1.9
1.7
1.9
1.9
1.9
1.8
2.1
2.1
1.9
Core PCE prices
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.5
1.5
1.5
1.5
1.5
1.5
1.5
1.6
1.6
1.6
1.6
1.7
1.8
1.6
1.7
1.8
1.7
1.7
1.9
2.0
1.8
1.8
1.8
1.8
1.7
2.0
2.0
1.8
1.9
2.0
1.9
1.8
2.1
2.1
2.0
Effective nominal federal funds rate2
Extended Tealbook baseline
Taylor (1993)
Taylor (1999)
Outcome-based
First-difference
Nominal income targeting
Optimal control
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
1.1
2.7
2.4
1.6
1.3
0.1
1.2
2.3
3.4
3.4
3.3
2.9
1.0
2.4
3.3
3.7
3.9
3.9
3.3
2.0
3.4
3.8
3.9
4.1
3.9
3.4
2.6
3.9
1. With the exception of optimal control, monetary policy is specified to keep the federal funds rate
at an effective lower bound of 12½ basis points as long as the unemployment rate is 5.6 percent or more. Once
the threshold is crossed, the federal funds rate follows the prescriptions of the specified rule.
2. Percent, average for the final quarter of the period.
Page 14 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
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, [math] denotes the effective 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 [math], the output gap estimate
for the current period as well as its one-quarter-ahead forecast [math], and the forecast of the
three-quarter-ahead annual change in the output gap [math]. The value of policymakers'
long-run inflation objective, denoted [math], is 2 percent. The nominal income targeting
rule responds to the nominal income gap, which is defined as the difference between nominal
income [math] (100 times the log of the level of nominal GDP) and a target value [math]
(100 times the log of target nominal GDP). Target nominal GDP in 2007:Q4 is set equal to the
staff's current estimate of 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 the
staff's estimate of potential GDP.
Taylor (1993) rule
\( R_t = 1.75+\pi_t+0.5(\pi_t-\pi^*)+0.5gap_t\)
Taylor (1999) rule
\( R_t = 1.75+\pi_t+0.5(\pi_t-\pi^*)+gap_t\)
Inertial Taylor (1999) rule
\( R_t = 0.85R_{t-1}+0.15\left(1.75+\pi_t+0.5(\pi_t-\pi^*)+gap_t\right)\)
\(
R
_
t
=
Outcome-based rule
1.2R_{t-1}-0.39R_{t-2}+0.19[1.75+0.73\pi_t+3.66gap_t-2.72gap_{t-1}]\)
First-difference rule
\( R_t = R_{t-1}+0.5(\pi_{t+3|t}-\pi^*)+0.5\Delta^4gap_{t+3|t}\)
Nominal income targeting rule
\( R_t = 0.75R_{t-1}+0.25(1.75+\pi_t+yn_t-yn^*_t)\)
The first two of the selected rules were studied by Taylor (1993, 1999), while the inertial
Taylor (1999) rule has been featured prominently in recent analysis by Board staff.1 The
outcome-based 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 1 3/4 percent, a
value used in the FRB/US model. The intercepts of the Taylor (1993, 1999) rules and the longrun intercept of the inertial Taylor (1999) rule are set at 1 3/4 percent for the same reason. The 1 3/4
percent real rate estimate also enters the long-run intercept of the nominal income targeting rule.
1 See Erceg and others (2012).
Page 15 of 54
Strategies
Appendix
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Strategies
The prescriptions of the first-difference rule do not depend on the level of the output gap or the
long-run real interest rate; see Orphanides (2003).
Near-term prescriptions from the different policy rules are calculated using Tealbook
projections for inflation and the output gap. For the rules that include the lagged policy rate as a
right-hand-side variable—the inertial Taylor (1999) rule, the first-difference rule, the estimated
outcome-based rule, and the nominal income targeting rule—the lines denoted “Previous
Tealbook outlook” report prescriptions derived from the previous Tealbook projections for
inflation and the output gap, while using the same lagged funds rate value as in the prescriptions
computed for the current Tealbook. When the Tealbook is published early in the quarter, this
lagged funds rate value is set equal to the actual value of the lagged funds rate in the previous
quarter, and prescriptions are shown for the current quarter. When the Tealbook is published late
in the quarter, the prescriptions are shown for the next quarter, and the lagged policy rate, for
each of these rules, including those that use the “Previous Tealbook outlook,” is set equal to the
average value for the policy rate thus far in the quarter. For the subsequent quarter, these rules
use the lagged values from their simulated, unconstrained prescriptions.
References
Erceg, Christopher, Jon Faust, Michael Kiley, Jean-Philippe Laforte, David López-Salido,
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.
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 OpenEconomy 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.
Page 16 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
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 12 quarters using an output projection from 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 memo item in the exhibit reports 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.
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.
FRB/US MODEL SIMULATIONS
The exhibits of “Monetary Policy Strategies” that report results from simulations of
alternative policies are derived from dynamic simulations of the FRB/US model. Each 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.
Page 17 of 54
Strategies
ESTIMATES OF THE EQUILIBRIUM AND ACTUAL REAL RATES
Authorized for Public Release
Strategies
Class I FOMC - Restricted Controlled (FR)
(This page is intentionally blank.)
Page 18 of 54
September 11, 2014
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Monetary Policy Alternatives
This Tealbook presents three alternative draft FOMC statements—labeled A, B,
and C—for the Committee’s consideration. These alternatives offer options for asset
purchases and forward guidance, along with different possibilities for characterizing
incoming information and the outlook.
With respect to balance sheet policy, Alternatives A and B reduce monthly
purchases of agency MBS and Treasury securities by another $5 billion each and indicate
In contrast, Alternative C announces that asset purchases will conclude this month, noting
the Committee’s judgment that there has been “a substantial improvement in the outlook
for the labor market” and its anticipation “that inflation will move toward the
Committee’s longer-run objective.”
Alternative B retains the June statement’s forward guidance for the federal funds
rate, indicating that the current range for the federal funds rate will likely remain in place
“for a considerable time after the asset purchase program ends.” Alternative C replaces
the entire phrase with “for some time.” Alternative A replaces the current date-based
guidance with an inflation floor; according to this state-dependent guidance, the
Committee would anticipate maintaining the current target range for the federal funds
rate “at least as long as inflation between one and two years ahead is projected to be
below 2 percent.” Under each alternative, the Committee would repeat its intention to
take a “balanced approach” when it begins to remove policy accommodation. In all three
alternatives, the Committee would also reiterate that it “currently anticipates that, even
after employment and inflation are near mandate-consistent levels, economic conditions
may, for some time, warrant keeping the target federal funds rate below levels the
Committee views as normal in the longer run.”
In their descriptions of current economic conditions, all three alternatives
characterize the pace of economic activity as “moderate,” and they note that labor market
conditions improved “somewhat further,” albeit with little change in the unemployment
rate. While Alternatives A and B reaffirm that underutilization of labor resources
remained “significant,” Alternative C points to “diminishing” underutilization. As in the
July statement, all three alternatives observe that household spending appears to be rising
Page 19 of 54
Alternatives
that the program will “likely” be concluded at the Committee’s next meeting in October.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
moderately, business fixed investment is advancing, and the housing recovery remains
slow. Alternatives A and B maintain the reference to the restraining effects of fiscal
policy; that reference is removed from the statement language proposed by Alternative C.
Alternatives A and B further acknowledge that inflation recently has been running
“somewhat below” (Alternative B) or “somewhat further below” (Alternative A) the
Committee’s longer-run objective. In contrast, Alternative C offers a judgment that
inflation “appears to be moving gradually toward” that objective. Data to be received
between the publication of this Tealbook and the second day of the September FOMC
meeting—in particular readings on retail sales and the CPI in August—could lead to
Alternatives
revisions in the first paragraph of each of the draft statements.
The alternatives all reaffirm the Committee’s modal forecast that, with
appropriate policy accommodation, economic activity will expand at a moderate pace
with labor market indicators and inflation moving toward levels the Committee judges
consistent with its dual mandate, although Alternative A notes that convergence is
expected to be gradual. All of the alternatives state that the Committee sees the “risks to
the outlook for economic activity and the labor market as nearly balanced.” Alternatives
B and C indicate that the risk of inflation running persistently below 2 percent has
diminished “since early this year.” In contrast, Alternative A notes that risks to the
outlook for inflation are “tilted somewhat to the downside.”
Subsequent pages present the July FOMC statement, as well as complete drafts of
Alternatives A, B, and C followed by supporting arguments and then draft directives.
Page 20 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
JULY 2014 FOMC STATEMENT
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee expects that, with appropriate policy
accommodation, economic activity will expand at a moderate pace, with labor market
indicators and inflation moving toward levels the Committee judges consistent with
its dual mandate. The Committee sees the risks to the outlook for economic activity
and the labor market as nearly balanced and judges that the likelihood of inflation
running persistently below 2 percent has diminished somewhat.
3. The Committee currently judges that there is sufficient underlying strength in the
broader economy to support ongoing improvement in labor market conditions. In
light of the cumulative progress toward maximum employment and the improvement
in the outlook for labor market conditions since the inception of the current asset
purchase program, the Committee decided to make a further measured reduction in
the pace of its asset purchases. Beginning in August, the Committee will add to its
holdings of agency mortgage-backed securities at a pace of $10 billion per month
rather than $15 billion per month, and will add to its holdings of longer-term Treasury
securities at a pace of $15 billion per month rather than $20 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 of rolling over maturing Treasury securities at
auction. The Committee’s sizable and still-increasing holdings of longer-term
securities should maintain downward pressure on longer-term interest rates, support
mortgage markets, and help to make broader financial conditions more
accommodative, which in turn should promote a stronger economic recovery and help
to ensure that inflation, over time, is at the rate most consistent with the Committee’s
dual mandate.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months and will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until the outlook for the labor market has improved substantially in a context of price
stability. If incoming information broadly supports the Committee’s expectation of
ongoing improvement in labor market conditions and inflation moving back toward
its longer-run objective, the Committee will likely reduce the pace of asset purchases
in further measured steps at future meetings. However, asset purchases are not on a
preset course, and the Committee’s decisions about their pace will remain contingent
Page 21 of 54
Alternatives
1. Information received since the Federal Open Market Committee met in June indicates
that growth in economic activity rebounded in the second quarter. Labor market
conditions improved, with the unemployment rate declining further. However, a
range of labor market indicators suggests that there remains significant
underutilization of labor resources. Household spending appears to be rising
moderately and business fixed investment is advancing, while the recovery in the
housing sector remains slow. Fiscal policy is restraining economic growth, although
the extent of restraint is diminishing. Inflation has moved somewhat closer to the
Committee’s longer-run objective. Longer-term inflation expectations have remained
stable.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Alternatives
on the Committee’s outlook for the labor market and inflation as well as its
assessment of the likely efficacy and costs of such purchases.
5. To support continued progress toward maximum employment and price stability, the
Committee today reaffirmed its view that a highly accommodative stance of monetary
policy remains appropriate. In determining how long to maintain the current 0 to
¼ percent target range for the federal funds rate, the Committee will assess
progress—both realized and expected—toward its objectives of maximum
employment and 2 percent inflation. This assessment will take into account a wide
range of information, including measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. The Committee continues to anticipate, based on its assessment of
these factors, that it likely will be appropriate to maintain the current target range for
the federal funds rate for a considerable time after the asset purchase program ends,
especially if projected inflation continues to run below the Committee’s 2 percent
longer-run goal, and provided that longer-term inflation expectations remain well
anchored.
6. 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. The Committee currently anticipates that, even after
employment and inflation are near mandate-consistent levels, economic conditions
may, for some time, warrant keeping the target federal funds rate below levels the
Committee views as normal in the longer run.
Page 22 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
FOMC STATEMENT—SEPTEMBER 2014 ALTERNATIVE A
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee expects that, with appropriate policy
accommodation, economic activity will expand at a moderate pace, with labor market
indicators and inflation moving gradually toward levels the Committee judges
consistent with its dual mandate. The Committee sees the risks to the outlook for
economic activity and the labor market as nearly balanced and judges that the
likelihood of inflation running persistently below 2 percent has diminished somewhat
the risks to the outlook for inflation as tilted somewhat to the downside.
3. The Committee currently judges that there is sufficient underlying strength in the
broader economy to support ongoing improvement in labor market conditions. In
light of the cumulative progress toward maximum employment and the improvement
in the outlook for labor market conditions since the inception of the current asset
purchase program, the Committee decided to make a further measured reduction in
the pace of its asset purchases. Beginning in August October, the Committee will
add to its holdings of agency mortgage-backed securities at a pace of $10 $5 billion
per month rather than $15 $10 billion per month, and will add to its holdings of
longer-term Treasury securities at a pace of $15 $10 billion per month rather than $20
$15 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 of rolling over
maturing Treasury securities at auction. The Committee’s sizable and still-increasing
holdings of longer-term securities should maintain downward pressure on longer-term
interest rates, support mortgage markets, and help to make broader financial
conditions more accommodative, which in turn should promote a stronger economic
recovery and help to ensure that inflation, over time, is at the rate most consistent
with the Committee’s dual mandate.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months and will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until the outlook for the labor market has improved substantially in a context of price
stability. If incoming information broadly supports the Committee’s expectation of
ongoing improvement in labor market conditions and inflation moving back toward
its longer-run objective, the Committee will likely reduce the pace of end its current
Page 23 of 54
Alternatives
1. Information received since the Federal Open Market Committee met in June July
indicates suggests that growth in economic activity rebounded is expanding at a
moderate pace in the second quarter. On balance, labor market conditions
improved with somewhat further; however, the unemployment rate declining
further is little changed. However, and a range of labor market indicators suggests
that there remains significant underutilization of labor resources. Household
spending appears to be rising moderately and business fixed investment is advancing,
while the recovery in the housing sector remains slow. Fiscal policy is restraining
economic growth, although the extent of restraint is diminishing. Inflation has moved
somewhat closer to further below the Committee’s longer-run objective even
though longer-term inflation expectations have remained stable.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Alternatives
program of asset purchases in further measured steps at future its next meetings.
However, asset purchases are not on a preset course, and the Committee’s decisions
about their pace will remain contingent on the Committee’s outlook for the labor
market and inflation as well as its assessment of the likely efficacy and costs of such
purchases.
5. To support continued progress toward maximum employment and price stability, the
Committee today reaffirmed its view that a highly accommodative stance of monetary
policy remains appropriate. In determining how long to maintain the current 0 to
¼ percent target range for the federal funds rate, the Committee will assess
progress—both realized and expected—toward its objectives of maximum
employment and 2 percent inflation. This assessment will take into account a wide
range of information, including measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. The Committee continues to anticipates, based on its assessment of
these factors, that it likely will be appropriate to maintain the current target range for
the federal funds rate for a considerable time after the asset purchase program ends,
especially if projected inflation continues to run below the Committee’s 2 percent
longer-run goal, and at least as long as inflation between one and two years ahead
is projected to be below 2 percent, provided that longer-term inflation expectations
remain well anchored.
6. 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. The Committee currently anticipates that, even after
employment and inflation are near mandate-consistent levels, economic conditions
may, for some time, warrant keeping the target federal funds rate below levels the
Committee views as normal in the longer run.
Page 24 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
FOMC STATEMENT—SEPTEMBER 2014 ALTERNATIVE B
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee expects that, with appropriate policy
accommodation, economic activity will expand at a moderate pace, with labor market
indicators and inflation moving toward levels the Committee judges consistent with
its dual mandate. The Committee sees the risks to the outlook for economic activity
and the labor market as nearly balanced and judges that the likelihood of inflation
running persistently below 2 percent has diminished somewhat since early this year.
3. The Committee currently judges that there is sufficient underlying strength in the
broader economy to support ongoing improvement in labor market conditions. In
light of the cumulative progress toward maximum employment and the improvement
in the outlook for labor market conditions since the inception of the current asset
purchase program, the Committee decided to make a further measured reduction in
the pace of its asset purchases. Beginning in August October, the Committee will
add to its holdings of agency mortgage-backed securities at a pace of $10 $5 billion
per month rather than $15 $10 billion per month, and will add to its holdings of
longer-term Treasury securities at a pace of $15 $10 billion per month rather than $20
$15 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 of rolling over
maturing Treasury securities at auction. The Committee’s sizable and still-increasing
holdings of longer-term securities should maintain downward pressure on longer-term
interest rates, support mortgage markets, and help to make broader financial
conditions more accommodative, which in turn should promote a stronger economic
recovery and help to ensure that inflation, over time, is at the rate most consistent
with the Committee’s dual mandate.
4. The Committee will closely monitor incoming information on economic and financial
developments in coming months and will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until the outlook for the labor market has improved substantially in a context of price
stability. If incoming information broadly supports the Committee’s expectation of
ongoing improvement in labor market conditions and inflation moving back toward
its longer-run objective, the Committee will likely reduce the pace of end its current
program of asset purchases in further measured steps at future its next meetings.
Page 25 of 54
Alternatives
1. Information received since the Federal Open Market Committee met in June July
indicates suggests that growth in economic activity rebounded is expanding at a
moderate pace in the second quarter. On balance, labor market conditions
improved with somewhat further; however, the unemployment rate declining
further is little changed. However, and a range of labor market indicators suggests
that there remains significant underutilization of labor resources. Household
spending appears to be rising moderately and business fixed investment is advancing,
while the recovery in the housing sector remains slow. Fiscal policy is restraining
economic growth, although the extent of restraint is diminishing. Inflation has moved
been running somewhat closer to below the Committee’s longer-run objective.
Longer-term inflation expectations have remained stable.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Alternatives
However, asset purchases are not on a preset course, and the Committee’s decisions
about their pace will remain contingent on the Committee’s outlook for the labor
market and inflation as well as its assessment of the likely efficacy and costs of such
purchases.
5. To support continued progress toward maximum employment and price stability, the
Committee today reaffirmed its view that a highly accommodative stance of monetary
policy remains appropriate. In determining how long to maintain the current 0 to
¼ percent target range for the federal funds rate, the Committee will assess
progress—both realized and expected—toward its objectives of maximum
employment and 2 percent inflation. This assessment will take into account a wide
range of information, including measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. The Committee continues to anticipate, based on its assessment of
these factors, that it likely will be appropriate to maintain the current target range for
the federal funds rate for a considerable time after the asset purchase program ends,
especially if projected inflation continues to run below the Committee’s 2 percent
longer-run goal, and provided that longer-term inflation expectations remain well
anchored.
6. 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. The Committee currently anticipates that, even after
employment and inflation are near mandate-consistent levels, economic conditions
may, for some time, warrant keeping the target federal funds rate below levels the
Committee views as normal in the longer run.
Page 26 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
FOMC STATEMENT—SEPTEMBER 2014 ALTERNATIVE C
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee expects that, with appropriate policy
accommodation, economic activity will expand at a moderate pace, with labor market
indicators and inflation moving toward levels the Committee judges consistent with
its dual mandate. The Committee sees the risks to the outlook for economic activity
and the labor market as nearly balanced and judges that the likelihood of inflation
running persistently below 2 percent has diminished somewhat since early this year.
3. The Committee currently judges that there is has been a substantial improvement
in the outlook for the labor market since the inception of its current asset
purchase program and continues to anticipate that inflation will move toward
the Committee’s longer-run objective. Moreover, the Committee sees sufficient
underlying strength in the broader economy to support ongoing improvement in labor
market conditions progress toward maximum employment in a context of price
stability. In light of the cumulative progress toward maximum employment and the
improvement in the outlook for labor market conditions since the inception of the
current asset purchase program Accordingly, the Committee decided to make a
further measured reduction in the pace of its asset purchases conclude its purchase
program this month. Beginning in August, the Committee will add to its holdings
of agency mortgage-backed securities at a pace of $10 billion per month rather than
$15 billion per month, and will add to its holdings of longer-term Treasury securities
at a pace of $15 billion per month rather than $20 billion per month.
4. 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 of rolling over maturing Treasury securities at
auction. The Committee’s sizable and still-increasing holdings of longer-term
securities should maintain downward pressure on longer-term interest rates, support
mortgage markets, and help to make broader help keep financial conditions more
accommodative, which in turn should promote a stronger economic recovery and help
to ensure that inflation, over time, is at the rate most consistent with the Committee’s
dual mandate.
Page 27 of 54
Alternatives
1. Information received since the Federal Open Market Committee met in June July
indicates suggests that growth in economic activity rebounded is expanding at a
moderate pace in the second quarter. On balance, labor market conditions
improved with somewhat further, although the unemployment rate declining further
is little changed. However Moreover, a range of labor market indicators suggests
that there remains significant underutilization of labor resources is diminishing.
Household spending appears to be rising moderately and business fixed investment is
advancing, while the recovery in the housing sector remains slow. Fiscal policy is
restraining economic growth, although the extent of restraint is diminishing. Inflation
has moved somewhat closer to appears to be moving gradually toward the
Committee’s longer-run objective. Longer-term inflation expectations have remained
stable.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Alternatives
The Committee will closely monitor incoming information on economic and financial
developments in coming months and will continue its purchases of Treasury and
agency mortgage-backed securities, and employ its other policy tools as appropriate,
until the outlook for the labor market has improved substantially in a context of price
stability. If incoming information broadly supports the Committee’s expectation of
ongoing improvement in labor market conditions and inflation moving back toward
its longer-run objective, the Committee will likely reduce the pace of asset purchases
in further measured steps at future meetings. However, asset purchases are not on a
preset course, and the Committee’s decisions about their pace will remain contingent
on the Committee’s outlook for the labor market and inflation as well as its
assessment of the likely efficacy and costs of such purchases.
5. To support continued progress toward maximum employment and price stability, the
Committee today reaffirmed its view that a highly accommodative stance of monetary
policy remains appropriate. In determining how long to maintain the current 0 to
¼ percent target range for the federal funds rate, the Committee will assess
progress—both realized and expected—toward its objectives of maximum
employment and 2 percent inflation. This assessment will take into account a wide
range of information, including measures of labor market conditions, indicators of
inflation pressures and inflation expectations, and readings on financial
developments. The Committee continues to anticipates, based on its assessment of
these factors, that it likely will be appropriate to maintain the current target range for
the federal funds rate for a considerable some time after the asset purchase program
ends, especially if projected inflation continues to run below the Committee’s
2 percent longer-run goal, and provided that longer-term inflation expectations
remain well anchored.
6. 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. The Committee currently anticipates that, even after
employment and inflation are near mandate-consistent levels, economic conditions
may, for some time, warrant keeping the target federal funds rate below levels the
Committee views as normal in the longer run.
Page 28 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
THE CASE FOR ALTERNATIVE B
Notwithstanding some softness in recent spending and labor market data, the
Committee, like the staff, might see the information received during the intermeeting
period as broadly consistent with an assessment that economic activity is expanding at a
moderate pace. Furthermore, policymakers may judge that there continues to be
sufficient underlying strength in the broader economy to generate ongoing improvement
in labor market conditions, with moderate growth in employment and economic activity
supported by diminishing restraint from fiscal policy and continued monetary
accommodation. Nonetheless, in light of the smaller-than-expected gains in payroll
employment during July and August, and with most measures of labor utilization little
underutilization of labor resources. Although the unemployment rate has appreciably
declined over the year and is also somewhat lower than expected at the start of year, it is
still well above the central tendency of participants’ longer-run projections in the June
SEP. Moreover, policymakers may regard the labor force participation rate as atypically
low, even after taking into account demographic effects. They may also see the elevated
number of part-time workers who would prefer a full-time job, the still-high share of
unemployed workers who have been out of work for six months or more, and modest
wage increases, as supporting the judgment that there is significant scope for
improvement in labor market conditions. In addition, policymakers might interpret the
recent softness in inflation as indicating that the pickup in earlier months was in part
transitory and that inflation may remain below their longer-run objective for some time.
Policymakers might conclude that a highly accommodative stance of monetary policy is
still appropriate in order to promote continued improvement in the labor market and a
return of inflation to 2 percent over the medium run. Even so, in light of the cumulative
improvements in the labor market in recent years and their expectation that progress
toward their objectives will continue, policymakers may judge it appropriate to make
another measured reduction in the pace of asset purchases, and to prepare markets for the
likely end of the purchase program in October, while maintaining the current target range
for the federal funds rate and forward guidance, as in Alternative B.
Some policymakers, however, may judge that more accommodation will likely be
appropriate before long. They may be concerned not only about downside risks to
inflation, but also that the persistent shortfall of inflation from the Committee’s longerrun objective poses downside risks to growth. Moreover, they may worry that recent
Page 29 of 54
Alternatives
changed, policymakers may continue to judge that there remains significant
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
softness in a number of indicators—including spending, payroll gains, and consumer
prices—might foreshadow further weakness. That said, the recently softer inflation
readings have evolved along the lines of earlier Tealbook projections, and longer-term
inflation expectations have remained within the range observed in recent years. While
they may see somewhat greater risks of less favorable outcomes for employment and
inflation than in July, those policymakers might conclude that it would be premature to
alter the Committee’s forward guidance regarding the likely path of the federal funds rate
in the direction of providing additional accommodation.
Taking into account the cumulative gains in payroll employment since the
Alternatives
inception of the current program of asset purchases, some policymakers may judge that
the second-quarter acceleration in prices and economic activity signals rapidly
diminishing slack and might prefer to conclude asset purchases at the current meeting.
However, in light of the somewhat disappointing labor market data received during the
intermeeting period, policymakers may be reluctant to deviate from the balance sheet
path suggested by past FOMC communications, which suggested that the Committee
would end the program at its October meeting. Other policymakers may be concerned
that maintaining near-zero rates for a considerable time risks pushing the unemployment
rate well below levels consistent with maximum employment and fueling an undesirably
large rise in inflation over the medium run. These policymakers might point to
prescriptions derived from several simple policy rules and the optimal control simulations
shown in the “Monetary Policy Strategies” section of Tealbook, Book B. However,
policymakers might question a number of the assumptions that underlie those simulation
results—including the sizable penalty on changes in the federal funds rate, the
assumption that policymakers have symmetric preferences, the absence of any role for
considerations such as the risk of derailing a fragile housing recovery, and the
asymmetric risks posed by proximity to the zero lower bound.1,2 They might further
observe that readings on 12-month PCE inflation, both overall and core, are little
Under symmetric preferences, policymakers see positive and negative deviations of
unemployment from the natural rate as equally costly, and also consider positive and negative deviations of
inflations from 2 percent as equally costly.
2
Further discussion of the implications of these assumptions is provided in the memo, “Potential
Implications of Alternative Approaches to the Timing and Pace of Tightening,” by Christopher J. Erceg,
Michael T. Kiley, and Robert J. Tetlow, sent to the Committee on September 5, 2014, as well as the
“Monetary Policy Strategies” section of Tealbook, Book B.
1
Page 30 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
changed, while wage increases have generally been modest, and longer-term inflation
expectations have remained stable.
Relatedly, some policymakers may worry that maintaining highly accommodative
policies for a long period of time could lead to excessive risk-taking in the financial
sector; they might point to the low levels of realized and implied volatility in financial
markets, evidence of reaching-for-yield behavior, and stretched valuations in some asset
markets. However, use of short-term financing instruments and indicators of leverage
remain well below levels observed ahead of the financial crisis. And while prices of real
estate and broad equity indexes have risen further, policymakers may still see valuation
metrics as generally in line with historical norms. Furthermore, policymakers may be
the economic recovery. Policymakers may accordingly conclude that ending asset
purchases at the October meeting and beginning to increase the federal funds rate next
year will appropriately balance the risks to financial stability.
Market participants would probably not be surprised by the asset purchase
decision or forward guidance laid out in Alternative B. According to the Desk’s latest
survey, all but one dealer and one buy-side respondent expect the Committee to announce
another $10 billion cut in the pace of asset purchases next week and are virtually certain
of that outcome. Most respondents did not anticipate any major changes to the
Committee’s forward guidance in September, although a few pointed to a possibility that
the “considerable time” language may be modified at this meeting or in the near future.
With regard to the statement’s description of the economic situation, most dealers did not
anticipate changes to the statement’s language other than modest updates of its summary
of current conditions; a couple of dealers, however, expected the Committee to remove or
modify the language indicating that there remains significant underutilization of labor
resources. Accordingly, a statement along the lines of Alternative B would likely cause
little change in asset prices.
THE CASE FOR ALTERNATIVE C
Policymakers may judge that the stated goals of the Committee’s current program
of asset purchases—a substantial improvement in the outlook for the labor market in a
context of price stability—have been achieved. Furthermore, some policymakers may be
convinced that a solid and durable expansion in economic activity is underway, and that
this expansion likely will reduce any remaining slack in labor markets fairly quickly. In
Page 31 of 54
Alternatives
concerned that a premature tightening would pose risks to financial stability by impairing
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
support of this view, they might cite the broad-based and swifter-than-expected reduction
in unemployment, including long-term unemployment, so far this year. Accordingly,
these policymakers may judge it appropriate to conclude asset purchases by the end of
September.
More generally, some policymakers may be concerned that maintaining the policy
stance articulated by the Committee in its recent statements would be overly
accommodative. Abstracting from recent ups and downs in reported inflation, and with
longer-run expected inflation remaining near 2 percent, policymakers may see inflation as
much more likely to run at or above 2 percent than persistently below that rate. They
Alternatives
may worry that a trajectory for the federal funds rate similar to that in the Tealbook
baseline forecast would create an appreciable risk that inflation might persistently exceed
the Committee’s longer-run goal in coming years, possibly even more than shown in the
alternative scenario “Higher Inflation with Unanchored Inflation Expectations” in the
“Risks and Uncertainty” section of Tealbook, Book A. These policymakers might
emphasize that most simple policy rule prescriptions and the optimal control simulations,
as presented in the “Monetary Policy Strategies” section of Tealbook, Book B, call for
policy tightening to begin immediately. Moreover, some participants may view the
moderate strengthening in the growth of credit to households and nonfinancial businesses
that has occurred this year as an indication that the Committee’s accommodative interestrate and balance-sheet policies are beginning to generate a broad-based increase in credit
supply that will eventually prove inflationary if those policies are not shifted toward more
neutral settings relatively soon. Some participants may also view high stock market
valuations, low credit spreads, and very low levels of implied volatility as reflecting the
highly accommodative stance of monetary policy and potentially posing risks to financial
stability. For all these reasons, participants may deem it appropriate to raise the federal
funds rate sooner than under Alternative B, and so find the proposed changes to the
forward guidance in the fifth paragraph of Alternative C desirable.
Furthermore, policymakers may perceive some restraining effects from fiscal
policy on economic growth—possibly along the lines of the box “Fiscal Policy Restraint
and Government Budget Conditions” in Tealbook, Book A. But they may deem these
effects to be sufficiently small to warrant dropping from the statement the previouslyused reference to restraining effects from fiscal policy, as proposed in the first paragraph
of Alternative C.
Page 32 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Based on the Desk’s latest surveys of primary dealers and buy-side firms, a
decision to adopt a statement like Alternative C would surprise market participants, as
none of the respondents to those surveys expect asset purchases to be terminated at this
meeting. The announcement of an immediate termination of the Committee’s current
program of asset purchases in combination with Alternative C’s modified policy
guidance likely would lead market participants to pull forward their forecasts of the date
at which the Committee will first increase its target for the federal funds rate. In addition,
the expected federal funds rate path for the subsequent tightening phase might steepen,
particularly if the changes announced in Alternative C were interpreted as implying a
shift in the Committee’s reaction function and if the reference to a diminishing rate of
improvement in the Committee’s assessment of the labor market. In response, mediumand longer-term real interest rates would rise, equity prices and inflation compensation
likely fall, and the dollar appreciate. However, if investors read the statement in
Alternative C as reflecting a more optimistic assessment of the outlook for economic
growth, equity prices would not fall as much or could even rise, and inflation
compensation might increase. The shift in policy expectations might be accompanied by
a rise in the volatility of fixed-income instruments and other securities, as investors could
become more uncertain about the timing and pace of normalization.
THE CASE FOR ALTERNATIVE A
In light of recent softness in the inflation data, some policymakers may worry that
the pickup in inflation seen in the second quarter will prove short-lived, and that inflation
will remain significantly below 2 percent over the medium term. Participants might point
to measures of inflation compensation derived from TIPS, which have declined toward
the bottom of the range of values recorded over the last few years. While policymakers
may regard current levels of inflation compensation as still consistent with stable longerterm inflation expectations, they might also see the decline in inflation compensation as
suggesting greater odds that inflation expectations will become unanchored. If expected
inflation were to drift down, mutually reinforcing dynamics could arise between
declining inflation expectations, inflation slowing further, and economic activity
remaining weak.3 Policymakers who attach a sizable probability to such outcomes may
In particular, policymakers may be concerned about possibly unstable inflation dynamics that
might even go beyond the alternative paths for long-term inflation expectations shown in the memo,
3
Page 33 of 54
Alternatives
underutilization of labor resources was taken to signal a larger-than-expected
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
see merit in a statement like Alternative A because it seeks to quell such risks by
introducing an explicit inflation floor into the Committee’s forward guidance.
Some policymakers may also be concerned that, over the first half of this year,
economic activity expanded only modestly, on net, and that the future pace of expansion
may not be all that strong. In addition, they might find it troubling that the housing
recovery is not regaining momentum and that improvements in mortgage finance have
stalled in spite of highly accommodative financial conditions. Because of these worries
about the strength of the economic recovery, participants may believe that it would be
appropriate to provide updated, state-dependent, forward guidance regarding the path of
Alternatives
the federal funds rate in order to provide more explicit scope for extending the period of
highly accommodative policy.
Policymakers may note that recent payroll gains fell well short of expectations
and thus may remain skeptical about whether further significant gains in employment can
be achieved in the absence of a persistent pickup in growth of economic activity. They
also may see the low labor force participation rate, the still-high share of part-time
workers for economic reasons, and the relatively moderate gains in hourly compensation
as indicative of weaker underlying labor market conditions than is evident from the
unemployment rate and payroll employment figures, possibly along the lines of the
alternative scenario “Higher Trend Labor Force Participation Rate” in the “Risks and
Uncertainty” section of Tealbook, Book A.
While participants may want to provide additional monetary accommodation, they
may nonetheless judge that there has been a sufficiently substantial improvement in the
outlook for labor markets since the inception of the current asset purchase program to
bring the program to a close relatively soon, possibly after the October meeting. To the
extent that the proposed inflation floor also pushes out the date on which reinvestments
are expected to end or begin to be phased out, the change in forward guidance would also
amplify the accommodation provided by the Committee’s holdings of longer-term
securities. Participants may thus prefer to add an inflation floor to the statement language
in conjunction with a signal that asset purchases will likely end in October, but with a
reaffirmation that asset purchases are not on a preset course and that future reductions in
“Long-Term Inflation Expectations and Risks to the Inflation Outlook,” by Thomas Laubach, John M.
Roberts, Jae W. Sim, and Brad E. Strum, sent to the Committee on September 5, 2014.
Page 34 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
the pace of purchases remain conditional on incoming data, as proposed in the fourth
paragraph of Alternative A.
Market participants would be surprised by an announcement like Alternative A.
In response to the new inflation-oriented forward guidance for the policy rate in the fifth
paragraph of Alternative A, market participants might push back the date of the first
increase in the federal funds rate, perhaps appreciably; a flattening of the expected path
for the federal funds rate after liftoff is also conceivable. After an announcement along
the lines of Alternative A, medium- and longer-term real interest rates would likely
decline, inflation compensation and equity prices might rise, and the dollar could
depreciate. However, insofar as investors interpreted a statement like that in Alternative
inflation, equity prices would not rise as much or could even decline, and inflation
compensation could fall. The shift in policy expectations might also make investors more
uncertain about the timing and pace of normalization, leading to increased volatility of
fixed-income instruments and other securities.
Page 35 of 54
Alternatives
A as reflecting a more downbeat assessment of the outlook for economic growth and
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
DIRECTIVE
The directive that was issued after the July meeting appears on the next page,
followed by drafts for a September directive that correspond to each of the three policy
alternatives. Each draft includes changes to make it consistent with the corresponding
postmeeting statement.
The directive for Alternatives A and B instructs the Desk to purchase, beginning
in October, longer-term Treasury securities at a pace of about $10 billion per month and
to continue purchasing agency mortgage-backed securities at a pace of about $5 billion
per month. The draft directive for Alternative C instructs the Desk to conclude the
Alternatives
current purchase program by the end of September. All three of the draft directives
instruct the Desk to maintain the current policy of reinvesting principal payments from its
holdings of agency debt and agency mortgage-backed securities in agency mortgagebacked securities and of rolling over maturing Treasury securities into new issues.
Page 36 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
July 2014 Directive
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and price
stability. 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
undertake open market operations as necessary to maintain such conditions. Beginning
in August, the Desk is directed to purchase longer-term Treasury securities at a pace of
about $15 billion per month and to purchase agency mortgage-backed securities at a pace
of about $10 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
Desk to maintain its policy of rolling over maturing Treasury securities into new issues
and its policy of reinvesting principal payments on all agency debt and agency mortgagebacked securities in agency mortgage-backed 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.
Page 37 of 54
Alternatives
Reserve’s agency mortgage-backed securities transactions. The Committee directs the
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Directive for September 2014 Alternative A
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and price
stability. 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
undertake open market operations as necessary to maintain such conditions. Beginning
in August October, the Desk is directed to purchase longer-term Treasury securities at a
pace of about $15 $10 billion per month and to purchase agency mortgage-backed
securities at a pace of about $10 $5 billion per month. The Committee also directs the
Desk to engage in dollar roll and coupon swap transactions as necessary to facilitate
Alternatives
settlement of the Federal Reserve’s agency mortgage-backed securities transactions. The
Committee directs the Desk to maintain its policy of rolling over maturing Treasury
securities into new issues and its policy of reinvesting principal payments on all agency
debt and agency mortgage-backed securities in agency mortgage-backed 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.
Page 38 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Directive for September 2014 Alternative B
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and price
stability. 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
undertake open market operations as necessary to maintain such conditions. Beginning
in August October, the Desk is directed to purchase longer-term Treasury securities at a
pace of about $15 $10 billion per month and to purchase agency mortgage-backed
securities at a pace of about $10 $5 billion per month. The Committee also directs the
Desk to engage in dollar roll and coupon swap transactions as necessary to facilitate
Committee directs the Desk to maintain its policy of rolling over maturing Treasury
securities into new issues and its policy of reinvesting principal payments on all agency
debt and agency mortgage-backed securities in agency mortgage-backed 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.
Page 39 of 54
Alternatives
settlement of the Federal Reserve’s agency mortgage-backed securities transactions. The
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Directive for September 2014 Alternative C
Consistent with its statutory mandate, the Federal Open Market Committee seeks
monetary and financial conditions that will foster maximum employment and price
stability. 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
undertake open market operations as necessary to maintain such conditions. Beginning
in August The Desk is directed to purchase conclude the current program of
purchases of longer-term Treasury securities at a pace of about $15 billion per month
and to purchase agency mortgage-backed securities at a pace of about $10 billion per
month by the end of September. The Committee also directs the Desk to engage in
Alternatives
dollar roll and coupon swap transactions as necessary to facilitate settlement of the
Federal Reserve’s agency mortgage-backed securities transactions. The Committee
directs the Desk to maintain its policy of rolling over maturing Treasury securities into
new issues and its policy of reinvesting principal payments on all agency debt and agency
mortgage-backed securities in agency mortgage-backed 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.
Page 40 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Projections
BALANCE SHEET, INCOME, AND MONETARY BASE
The staff has prepared a projection of the Federal Reserve’s balance sheet and
income statement that corresponds to Alternative B.1 The projection reflects the staff’s
assumptions about the trajectories of various components of the balance sheet. In
particular, the projection embeds the assumption that, at the time that the process of
normalization of the size of the balance sheet begins, the SOMA portfolio will shrink
only through paydowns of principal from agency MBS and redemptions of maturing
Treasury securities and agency debt.
In the projection, monthly purchases of longer-term Treasury securities and
agency MBS are each reduced by another $5 billion at the beginning of October, and by
$10 and $5 billion (to zero), respectively, following the October meeting. Under this
assumption, which is the same as the policy assumption in the staff baseline forecast
presented in Tealbook, Book A, purchases cumulate to a bit less than $1.5 trillion over
2013 and 2014, an amount that is unchanged from Alternative B and the staff forecast in
the July Tealbook.2
assets peak at about $4.5 trillion in the first quarter of 2015, with $2.5 trillion in Treasury
securities holdings and $1.7 trillion in agency MBS holdings.3 Reserve balances peak at
about $2.9 trillion in the fourth quarter of 2014. We assume that the first increase in the
target federal funds rate is in the second quarter of 2015, consistent with the staff
As there are only small differences in the purchase programs across Alternatives A, B, and C, the
contours of the balance sheet projections would be similar for the other two alternatives. The size of the
Federal Reserve’s balance sheet would normalize a bit later under Alternative A because the period over
which the federal funds rate remains at the effective lower bound, and hence the period over which
reinvestments continue, is stretched further into the future by the forward guidance added under that
alternative. There would be no material difference in the projection for Alternative C relative to
Alternative B.
2
Including MBS purchases in the fourth quarter of 2012, under the flow-based asset purchase
program, the FOMC purchased $790 billion of Treasury securities and $800 billion of MBS securities, or
about $1.6 trillion in total.
3
Total assets peak after the end of the purchase program because of delayed settlement of agency
MBS purchases.
1
Page 41 of 54
Projections
As shown in the exhibit, “Total Assets and Selected Balance Sheet Items,” total
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Federal Reserve Balance Sheet
End-of-Year Projections -- Alternative B
Billions of dollars
Jul 31, 2014
2015
2017
2019
2021
2023
2025
4,405
4,467
3,682
2,693
2,130
2,326
2,542
2
0
0
0
0
0
0
4,137
4,213
3,468
2,512
1,970
2,183
2,413
2,420
2,454
2,043
1,345
1,016
1,406
1,788
42
33
4
2
2
2
2
1,674
1,727
1,420
1,164
953
774
622
Unamortized premiums
209
192
149
114
90
72
58
Unamortized discounts
-19
-17
-13
-11
-8
-7
-6
76
78
78
78
78
78
78
4,349
4,401
3,598
2,588
1,997
2,157
2,329
1,242
1,356
1,504
1,626
1,770
1,931
2,102
211
211
211
111
111
111
111
2,890
2,829
1,880
847
112
112
112
2,747
2,818
1,868
835
100
100
100
127
5
5
5
5
5
5
16
7
7
7
7
7
7
2
0
0
0
0
0
0
56
66
83
105
133
168
213
Total assets
Selected assets
Loans and other credit extensions*
Securities held outright
U.S. Treasury securities
Agency debt securities
Agency mortgage-backed securities
Total other assets
Projections
Total liabilities
Selected liabilities
Federal Reserve notes in circulation
Reverse repurchase agreements
Deposits with Federal Reserve Banks
Reserve balances held by depository institutions
U.S. Treasury, General Account
Other Deposits
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.
* Loans and other credit extensions includes primary, secondary, and seasonal credit; central bank liquidity swaps; Term Asset-Backed Securities Loan
Facility (TALF); net portfolio holdings of Maiden Lane LLC, Maiden Lane II LLC, and Maiden Lane III LLC; and net portfolio holdings of TALF LLC.
Page 42 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Total Assets and Selected Balance Sheet Items
Alternative B
July Tealbook Alternative B
Total Assets
Reserve Balances
Billions of dollars
Monthly
Billions of dollars
5500
Monthly
5000
4000
3500
4500
3000
4000
3500
2500
3000
2000
2500
1500
2000
1500
1000
1000
500
500
2024
2022
2020
2018
2016
2014
SOMA Agency MBS Holdings
Billions of dollars
Monthly
3000
Billions of dollars
Monthly
2200
2000
2500
1800
1600
2000
1400
1200
1500
1000
800
1000
600
400
500
200
0
Page 43 of 54
2024
2022
2020
2018
2016
2014
2012
2010
2024
2022
2020
2018
2016
2014
2012
2010
0
Projections
SOMA Treasury Holdings
2012
2010
0
2024
2022
2020
2018
2016
2014
2012
2010
0
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
economic forecast and unchanged from Alternative B of the July Tealbook. We also
assume that the level of overnight reverse repurchase agreements (ON RRPs) runs at
$100 billion through the end of 2018 and then falls to zero by the end of 2019.4 Six
months after the federal funds rate is raised above its effective lower bound, all
reinvestments and rollovers of securities are assumed to cease; at that time, the SOMA
portfolio begins to contract.5 The size of the portfolio is normalized by the fourth quarter
of 2021, the same as in the July Tealbook.6 The balance sheet then begins to expand,
with increases in SOMA holdings essentially matching the growth of currency in
circulation and Federal Reserve Bank capital and surplus. Total assets are $2.5 trillion at
the end of 2025, with about $2.4 trillion in total SOMA securities holdings, of which
$620 billion are agency MBS.
The second exhibit, “Income Projections,” shows the implications of these
balance sheet developments for Federal Reserve income. Interest income rises over the
period in which reinvestment purchases continue; subsequently, it declines for a number
of years as the SOMA portfolio contracts through redemptions and paydowns of
principal. Although interest expense is currently quite small, it climbs over the next few
years as the interest rate on reserve balances increases while those balances are still quite
elevated; annual interest expense peaks at $70 billion in 2017.7 Putting these pieces
Projections
together, annual remittances reach about $100 billion this year and then slowly decline
Use of ON RRPs results in a shift in the composition of Federal Reserve liabilities—a decline in
reserve balances and a corresponding increase in reverse repurchase agreements—but does not produce an
overall change in the size of the balance sheet. The current projections also embed the assumption that
RRPs associated with foreign official and international accounts will remain around $110 billion
throughout the projection period. We assume that term deposits are not used during normalization; their
use would also result in a shift in the composition of liabilities—a decline in reserve balances and a
corresponding increase in term deposits.
5
Projected prepayments of agency MBS reflect interest rate projections as of September 8, 2014.
6
The size of the balance sheet is assumed to be normalized when the securities portfolio reverts to
its longer-run trend level, which is 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 conduct monetary policy in the long run; currently, we assume that level of reserve balances to
be $100 billion.
7
We assume the interest rate paid on reserve balances remains 25 basis points as long as the
federal funds rate remains at its effective lower bound. In addition, we assume that, once firming of the
policy rate begins, the spread between the interest rate paid on reserve balances and the ON RRP rate is 25
basis points. In particular, the rate paid on reserve balances is between 12.5 and 17.5 basis points above the
federal funds rate, and the ON RRP rate is 12.5 to 7.5 basis points below it, with the spread sufficient to
create conditions in which trading in the federal funds market is at the projected federal funds rate.
4
Page 44 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Income Projections
Alternative B
July Tealbook Alternative B
Interest Income
Interest Expense
60
60
40
40
20
20
0
0
Billions of dollars
Annual
120
40
20
20
0
0
−20
−20
Memo: Unrealized Gains/Losses
Billions of dollars
End of year
Page 45 of 54
400
300
200
100
0
−100
−200
−300
2024
2022
2020
2018
−400
2016
120
110
100
90
80
70
60
50
40
30
20
10
0
2024
2022
2020
2018
2016
End of year
2012
Billions of dollars
2014
Deferred Asset
2024
40
2022
60
2020
60
2018
80
2016
80
2014
100
2012
100
2024
2022
2020
2018
2016
140
−500
Projections
140
120
2014
2024
80
2022
80
2020
100
2018
100
2016
120
2012
Annual
2014
140
Remittances to Treasury
Billions of dollars
2012
Annual
120
Realized Capital Gains
2012
Billions of dollars
140
2024
2022
2020
2018
2016
2014
2012
Annual
2014
Billions of dollars
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
over the following four years. Annual remittances reach their trough at about $15 billion
in 2018, about $10 billion higher than in the July Alternative B scenario; no deferred
asset is recorded.8 The Federal Reserve’s cumulative remittances from 2009 through
2025 are about $925 billion, approximately $175 billion above the staff estimate of the
level that would have been observed had there been no asset purchase programs.9
The unrealized gain or loss position of the SOMA portfolio is influenced
importantly by the level of interest rates. The staff estimates that the portfolio was in an
unrealized gain position of about $120 billion as of the end of August 2014.10 Reflecting
the assumed rise in interest rates over the next several years, the position is projected to
shift to an unrealized loss in the near term and projected year-end unrealized losses peak
at $325 billion in 2016. At the peak, $175 billion of the unrealized loss can be attributed
to the Treasury portfolio and $150 billion to the MBS portfolio. The unrealized loss
position narrows through the remainder of the forecast period, as securities acquired
under the large-scale asset purchase programs mature and new securities are added to the
portfolio at par.
As shown in the exhibit, “Projections for the 10-Year Treasury Term Premium
Effect,” the effect of the Federal Reserve’s cumulative increase in asset holdings on the
term premium embedded in the 10-year Treasury yield in the third quarter of 2014 is
negative 122 basis points, about the same as in the July Tealbook. Over the projection
Projections
period, the term premium effect diminishes toward zero at a pace of about 5 basis points
per quarter, reflecting the actual and anticipated normalization of the portfolio.
As shown in the final exhibit, “Projections for the Monetary Base,” the monetary
base increases through the middle of 2015 because the purchase program is accompanied
by additions to reserve balances. Once the normalization process begins, the monetary
base shrinks through 2021, primarily because redemptions of securities cause
corresponding reductions in reserve balances. Starting around mid-2022, after reserve
In the event that a Federal Reserve Bank’s earnings fall short of the amount necessary to cover
its operating costs, pay dividends, and equate surplus to capital paid-in, a deferred asset would be recorded.
9
The staff estimate is obtained by linear interpolation from 2006 to 2025 based on actual 2006
income and projected 2025 income.
10
The Federal Reserve reports the level and the change in the quarter-end net unrealized gain/loss
position of the SOMA portfolio to the public in the “Federal Reserve Banks Combined Quarterly Financial
Report,” available on the Board’s website at
http://www.federalreserve.gov/monetarypolicy/bst_fedfinancials.htm#quarterly.
8
Page 46 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Projections for the 10-Year Treasury Term Premium Effect
Date
Alternative B
July
Alternative B
Basis Points
Quarterly Averages
2014: Q3
Q4
-122
-117
-111
-106
-101
-96
-91
-87
-82
-78
-122
-117
-112
-107
-101
-96
-92
-87
-82
-78
Q4
Q4
Q4
Q4
Q4
Q4
Q4
Q4
Q4
-63
-50
-41
-33
-27
-22
-18
-14
-10
-63
-51
-41
-33
-27
-22
-18
-13
-10
Q4
2015: Q1
Q2
Q3
Q4
2016: Q1
Q2
Q3
2017:
2018:
2019:
2020:
2021:
2022:
2023:
2024:
2025:
Page 47 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Projections for the Monetary Base
Percent change, annual rate; not seasonally adjusted
Date
Alternative B
July
Alternative B
Quarterly
2014: Q3
Q4
2015: Q1
Q2
Q3
Q4
2016: Q1
Q2
Q3
Q4
Annual
2017
2018
2019
2020
2021
2022
2023
2024
2025
10.8
7.9
0.9
6.4
2.1
-1.0
-6.4
-13.1
-10.3
-8.7
32.3
10.1
1.1
6.2
2.2
-0.8
-6.0
-12.3
-9.5
-8.1
-10.1
-15.2
-13.9
-14.6
-12.4
3.7
4.2
4.2
4.1
-9.3
-14.0
-12.5
-13.0
-11.3
2.8
3.7
3.7
3.7
Note: For years, Q4 to Q4; for quarters, calculated from corresponding
average levels.
Page 48 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
balances are assumed to have stabilized at $100 billion, the monetary base begins to
Projections
expand in line with the increase in currency in circulation.11
The projection for the monetary base depends critically on the FOMC’s choice of tools during
normalization. If, for example, the FOMC employs additional reverse repurchase agreements or term
deposits to drain reserves during normalization, the projected level of reserve balances and the monetary
base could decline quite markedly in the out-years of the projection. In this projection, an ON RRP facility
is assumed and, therefore, the monetary base is lower until 2019 (when the facility is phased out) than it
would otherwise be. Because the size of the ON RRP program is small in relation to reserve balances, the
overall contours of the monetary base are not greatly affected.
11
Page 49 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
MONEY
In recent years, M2 has grown considerably faster than would have been
anticipated based on its historical relationship with nominal GDP and the opportunity
cost of holding money. However, the staff projects that this period of unusual strength in
M2 growth is likely to end and that the growth of M2 will decline markedly over the
forecast horizon, even turning negative for a time. This forecast trajectory for M2 growth
reflects an expected increase in the opportunity cost of holding M2 balances arising from
the projected firming of monetary policy.12 Compared with last round, the staff forecast
for M2 growth is somewhat higher over most of the forecast period. After assessing
recent regulatory developments, staff judged that depository institutions may see deposit
liabilities as a more attractive funding source, compared with other liabilities, than was
the case in the past. Consequently, staff lowered its projection of the amount of
Projections
exceptional M2 balances that is likely to unwind as the economy continues to recover.13
The three-month Treasury bill rate is assumed to begin rising in 2015:Q1—one quarter earlier than the
time at which the staff projects the federal funds rate will be raised above its effective lower bound.
Subsequently, the Treasury bill rate is assumed to continue rising through the end of the projection period,
implying an increasing opportunity cost of holding M2 balances.
13
With the introduction of the Basel III Liquidity Coverage Ratio, depository institutions may prefer
deposits to many other means of funding because the run-off rate for retail deposits used in the calculation
of the liquidity coverage ratio is low relative to that of many other liabilities. Of course, there is
uncertainty regarding this assessment, and other regulatory developments, such as higher capital
requirements, might tend to constrain the growth of bank balance sheets and deposits.
12
Page 50 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
M2 Monetary Aggregate Projections
(Percent change, annual rate; seasonally adjusted)*
Quarterly
2014:
2015:
2016:
2017:
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
5.7
4.3
1.9
-2.9
-2.8
-1.6
-0.3
0.5
0.9
1.3
1.7
1.9
2.2
2.4
Annual
Projections
2014
6.0
2015
-1.4
2016
0.6
2017
2.1
Actual data through September 1, 2014; projections thereafter.
* Quarterly growth rates are computed from quarter averages. Annual
growth rates are fourth quarter over fourth quarter.
Page 51 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
Projections
(This page is intentionally blank.)
Page 52 of 54
September 11, 2014
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
Abbreviations
ABS
asset-backed securities
AFE
advanced foreign economy
BEA
Bureau of Economic Analysis, Department of Commerce
BHC
bank holding company
CDS
credit default swaps
C&I
commercial and industrial
CLO
collateralized loan obligation
CMBS
commercial mortgage-backed securities
CPI
consumer price index
CRE
commercial real estate
Desk
Open Market Desk
ECB
European Central Bank
EME
emerging market economy
FDIC
Federal Deposit Insurance Corporation
FOMC
Federal Open Market Committee; also, the Committee
GCF
general collateral finance
GDI
gross domestic income
GDP
gross domestic product
LIBOR
London interbank offered rate
LSAP
large-scale asset purchase
MBS
mortgage-backed securities
NIPA
national income and product accounts
OIS
overnight index swap
ON RRP
overnight reverse repurchase agreement
PCE
personal consumption expenditures
repo
repurchase agreement
RMBS
residential mortgage-backed securities
Page 53 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
September 11, 2014
RRP
reverse repurchase agreement
SCOOS
Senior Credit Officer Opinion Survey on Dealer Financing Terms
SEP
Summary of Economic Projections
SFA
Supplemental Financing Account
SLOOS
Senior Loan Officer Opinion Survey on Bank Lending Practices
SOMA
System Open Market Account
S&P
Standard & Poor’s
TALF
Term Asset-Backed Securities Loan Facility
TBA
to be announced (for example, TBA market)
TGA
U.S. Treasury’s General Account
TIPS
Treasury inflation-protected securities
TPE
Term premium effects
Page 54 of 54
Cite this document
APA
Federal Reserve (2014, September 16). Greenbook/Tealbook. Greenbooks, Federal Reserve. https://whenthefedspeaks.com/doc/greenbook_20140917_part2
BibTeX
@misc{wtfs_greenbook_20140917_part2,
author = {Federal Reserve},
title = {Greenbook/Tealbook},
year = {2014},
month = {Sep},
howpublished = {Greenbooks, Federal Reserve},
url = {https://whenthefedspeaks.com/doc/greenbook_20140917_part2},
note = {Retrieved via When the Fed Speaks corpus}
}