greenbooks · June 14, 2016
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 01/14/2022.
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
June 9, 2016
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.)
June 9, 2016
Monetary Policy Strategies
The top panel of the first exhibit, “Policy Rules and the Staff Projection,”
provides near-term prescriptions for the federal funds rate from four policy rules: the
Taylor (1993) rule, the Taylor (1999) rule, an inertial version of the Taylor (1999) rule,
and a first-difference rule.1 These prescriptions take as given the staff’s baseline
projections for the output gap and inflation in the near term, shown in the middle panels.
The top panel also includes as an addendum the staff’s baseline projection for the federal
funds rate. All three Taylor-type rules call for values of the federal funds rate above the
Tealbook baseline in the second half of 2016. The Taylor (1993) and Taylor (1999)
rules, which feature no interest rate smoothing term, call for larger increases in the near
term than the inertial Taylor (1999) rule and the first-difference rule. The prescriptions
of the Taylor-type rules are similar to those in the April Tealbook because the staff’s
revisions to inflation and the output gap in the near term are small and have offsetting
effects. The first-difference rule calls for levels of the federal funds rate that are slightly
lower than in April because this rule is forward-looking and responds to the staff’s
projection of slower output growth over the next four quarters; the near-term
prescriptions of that rule are a little below the Tealbook baseline.
The bottom panel of the exhibit reports the estimate of a Tealbook-consistent,
medium-term notion of the equilibrium real federal funds rate that is generated using the
FRB/US model. This Tealbook-consistent FRB/US r* corresponds to the level of the real
federal funds rate that, if maintained over a 12-quarter period, would close the output gap
in the final quarter of that period in the model. The current-quarter estimate of r*, at
0.96 percent, is below the estimate derived from the staff’s outlook in April, reflecting
lower levels of resource utilization in the current projection. The panel also reports the
average level of the real federal funds rate in the Tealbook baseline projection for the
same 12-quarter period used to compute r*.2 This average is -0.05 percent, about
1
The appendix to this section provides details on each of the four rules. The intercepts of the
rules, where applicable, are constant and equal the staff’s estimate of the real federal funds rate in the long
run, which the staff revised down 25 basis points in the current Tealbook to 1 percent. To facilitate
comparisons, the prescriptions labeled “Previous Tealbook, adjusted” reflect the current values of the
intercepts.
2
Although r* and the average projected real federal funds rate are calculated over the same
12-quarter period, they need not be associated with the same macroeconomic outcomes even when their
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Strategies
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Strategies
Policy Rules and the Staff Projection
Near−Term Prescriptions of Selected Policy Rules1
(Percent)
2016:Q3
2016:Q4
Taylor (1993) rule
Previous Tealbook, adjusted
2.43
2.40
2.51
2.55
Taylor (1999) rule
Previous Tealbook, adjusted
2.47
2.49
2.66
2.82
Inertial Taylor (1999) rule
Previous Tealbook, adjusted
0.72
0.72
1.01
1.04
First−difference rule
Previous Tealbook, adjusted
0.47
0.63
0.61
0.84
Addendum:
Tealbook baseline
0.58
0.77
*
Key Elements of the Staff Projection
PCE Prices Excluding Food and Energy
GDP Gap
Percent
Percent
Four−quarter average
3
3.0
Current Tealbook
Previous Tealbook
2.5
2
2.0
1
1.5
0
1.0
−1
2015
2016
2017
2018
2019
2020
2021
0.5
−2
2015
2016
2017
2018
2019
2020
2021
0.0
Real Federal Funds Rate Estimates2
(Percent)
Current Previous Tealbook,
adjusted
Tealbook
Tealbook−consistent FRB/US r*
Average projected real federal funds rate
0.96
−0.05
*
1.35
0.12
1. The lines denoted "Previous Tealbook, adjusted" report rule prescriptions based on the previous Tealbook's staff outlook
using the current rule specifications, where intercept terms have been adjusted for the staff's downward revision to the
longer−run real federal funds rate, and where rules with the lagged policy rate as a right−hand−side variable are conditional on
the current−Tealbook value of the lagged policy rate.
2. The "Tealbook−consistent FRB/US r*" is the level of the real federal funds rate that, if maintained over a 12−quarter
period (beginning in the current quarter) in the FRB/US model, sets the output gap equal to zero in the final quarter of that
period. The "average projected real federal funds rate" is calculated under the Tealbook baseline projection over the same
12−quarter period as the Tealbook FRB/US r*. Statistics from the previous Tealbook have been adjusted to reflect the staff's
downward revision to the longer−run real federal funds rate as well as the introduction of a time−varying intercept in the
interest rate reaction function.
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1 percentage point below the estimate of Tealbook-consistent FRB/US r*. The
than in the April Tealbook as a result of the downward revision of the projected output
gap.
The second exhibit, “Policy Rule Simulations,” reports dynamic simulations of
the FRB/US model under the Taylor (1993) rule, the Taylor (1999) rule, the inertial
Taylor (1999) rule, and the first-difference rule. These simulations reflect the
endogenous responses of the output gap and inflation when the federal funds rate follows
the paths implied by the different policy rules.3 The intercept terms of the Taylor rules
correspond to the staff’s assumption that the longer-run normal level of the real federal
funds rate equals 1 percent. The results for each rule presented in these and subsequent
simulations depend importantly on the assumptions that policymakers will adhere to the
rule in the future, and that market participants as well as price and wage setters fully
understand the implications for real activity and inflation of the policy rule.
Starting with this Tealbook, the baseline policy path in the staff forecast is based
on a modified version of the inertial Taylor (1999) rule with a time-varying intercept.4
The implications of this adjustment to the intercept in the model can be seen by
comparing the outcomes under the inertial Taylor rule, which contains no adjustment,
with those of the baseline. In the Tealbook baseline, the nominal federal funds rate
increases by an average of ¼ percentage point per quarter through the fourth quarter of
2018, when it reaches 2.6 percent. The pace of tightening subsequently slows, and the
federal funds rate peaks at 3.6 percent in 2021, before eventually returning to its longerrun normal level of 3 percent. The inertial Taylor (1999) rule prescribes a slightly higher
path for the federal funds rate than in the Tealbook baseline because, until late 2018, its
intercept is higher than in the modified version of the rule used to construct the baseline.
values are identical. The reason is that, when calculating r*, the real federal funds rate is held constant
over the entire 12-quarter period, whereas, in the Tealbook baseline, the real federal funds rate can vary
over time. Distinct paths of real short-term rates can, in turn, generate different paths for inflation and
economic activity, even if they have the same 12-quarter average.
3
Because of these endogenous responses, prescriptions from the dynamic simulations can differ
from those shown in the top panel of the first exhibit.
4
The Taylor-type rules used in the exhibit do not incorporate time-varying intercepts. For a
discussion of the intercept adjustment made to the Tealbook baseline policy rule, see Christopher Erceg,
Etienne Gagnon, David López-Salido, Matthias Paustian, and James Trevino (2016), “Changes to the
Interest-Rate Reaction Function Used in the Tealbook,” memorandum to the Federal Open Market
Committee, Board of Governors of the Federal Reserve System, Divisions of International Finance,
Monetary Affairs, and Research and Statistics, June 3.
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difference between r* and the average projected real federal funds rate is a little larger
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Strategies
Policy Rule Simulations
Unemployment Rate
Nominal Federal Funds Rate
Percent
Percent
6.0
7
Taylor (1993) rule
Taylor (1999) rule
Inertial Taylor (1999) rule
First−difference rule
Tealbook baseline
Staff's estimate of the natural rate
6
5
5.5
4
3
5.0
2
1
4.5
0
2015
2016
2017
2018
2019
2020
2021
4.0
Real Federal Funds Rate
Percent
4
3.5
3
2015
2
1
0
2016
2017
2018
2019
2020
2021
PCE Inflation
Percent
Four−quarter average
2.5
−1
2015
2016
2017
2018
2019
2020
2021
−2
2.0
3
1.5
Real 10−year Treasury Yield
Percent
2
1.0
1
0.5
0
2015
2016
2017
2018
2019
2020
2021
−1
2015
2016
2017
2018
2019
2020
2021
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.
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However, this difference in policy rates is too small and short-lived to have a material
so macroeconomic outcomes are very similar to the Tealbook baseline.
The Taylor (1993) and Taylor (1999) rules call for an immediate sharp tightening
and produce paths for the real federal funds rate that lie significantly above the Tealbook
baseline path over the next few years. The sharp initial tightening occurs in part because
these rules do not include lagged values of the federal funds rate as a determinant of their
current policy prescriptions. With the output gap essentially closed, core inflation only
½ percentage point below the Committee’s objective, and an intercept term of 1 percent,
the Taylor (1993) and Taylor (1999) rules prescribe rates that are ½ percentage point
below their longer-run level of 3 percent in the near term. Over the next few years, these
rules would cause the unemployment rate to undershoot the staff’s estimate of the natural
rate by less than in the staff’s baseline projection. The Taylor (1999) rule calls for
somewhat higher policy rates than the Taylor (1993) rule over the period shown because
it places more weight on the output gap and output is projected to rise above potential for
the next few years. As a consequence, the Taylor (1999) rule generates a higher
trajectory of the unemployment rate and a slightly lower trajectory of inflation than the
Taylor (1993) rule.
The first-difference rule prescribes a moderately higher path for the federal funds
rate through 2018 than in the Tealbook baseline. Thereafter, the federal funds rate levels
off under the first-difference rule, whereas it keeps rising under the Tealbook baseline.
This divergence occurs because the first-difference rule, which responds to the expected
change in the output gap rather than to its level, reacts to the slower pace of economic
growth projected late in the decade. The lower path of the federal funds rate beyond
2018 under the first-difference rule, in conjunction with expectations of higher price and
wage inflation in the future, implies lower longer-term real rates over the entire
projection period, as well as higher levels of resource utilization and inflation. The firstdifference rule generates outcomes for the unemployment rate over the forecast period
that are markedly below the unemployment rate paths generated under the other policy
rules and well below the staff’s estimate of the natural rate. Accordingly, the firstdifference rule also leads to somewhat higher inflation over the period shown relative to
the other simple rules.
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effect on the real longer-term interest rates that influence economic activity in FRB/US,
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Strategies
Optimal Control Simulations under Commitment
Unemployment Rate
Nominal Federal Funds Rate
Percent
Percent
7
Equal weights
Asymmetric weight on ugap
Large weight on inflation gap
Minimal weight on rate adjustments
Tealbook baseline
6.0
Staff's estimate of the natural rate
6
5
5.5
4
3
5.0
2
1
4.5
0
2015
2016
2017
2018
2019
2020
2021
4.0
Real Federal Funds Rate
Percent
4
3.5
3
2015
2
1
0
2016
2017
2018
2019
2020
2021
PCE Inflation
Percent
Four−quarter average
2.5
−1
2015
2016
2017
2018
2019
2020
2021
−2
2.0
3
1.5
Real 10−year Treasury Yield
Percent
2
1.0
1
0.5
0
2015
2016
2017
2018
2019
2020
2021
−1
2015
2016
2017
2018
2019
2020
2021
0.0
Note: Each set of lines corresponds to an optimal control policy under commitment in which policymakers minimize a
discounted weighted sum of squared deviations of four−quarter headline PCE inflation from the Committee's 2 percent objective,
of squared deviations of the unemployment rate from the staff's estimate of the natural rate, and of squared changes in the
federal funds rate. The weights vary across simulations. See the box "Optimal Control and the Loss Function" for a motivation
and the appendix for technical details.
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The third exhibit, “Optimal Control Simulations under Commitment,” displays
as captured by four specifications of the loss function. The companion box “Optimal
Control and the Loss Function” offers motivations for these specifications; the appendix
provides technical details. The concept of optimal control that is employed here
corresponds to a commitment policy under which the plans that policymakers make today
are assumed to constrain future policy choices in a way that improves overall economic
outcomes. The exhibit also shows the current Tealbook baseline forecast.
The first simulation, labeled “equal weights,” presents the familiar case in which
policymakers are assumed to place the same 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. In the resulting optimal strategy, the path for the federal funds rate is
significantly higher than the Tealbook policy path. This is because, in the current
baseline projection, unemployment falls well below the staff’s estimate of the natural rate
over the next several years. Under the preferences embedded in optimal control with
equal weights, policymakers judge this undershooting of the natural rate to be costly,
leading them to tighten policy appreciably more than in the Tealbook baseline. This
tighter policy results in a path of the unemployment rate that runs substantially closer to
the staff’s estimate of the natural rate; headline PCE inflation is slightly lower than in the
Tealbook baseline over the simulation period, consistent with lower levels of resource
utilization.
The second simulation, labeled “asymmetric weight on ugap,” uses a loss
function that assigns no cost to unemployment rate outcomes below the natural rate but
that is otherwise identical to the specification with equal weights. In the resulting
optimal strategy, the path of the federal funds rate is considerably below both the
corresponding path in the case of equal weights and the path in the Tealbook baseline.
Policymakers choose this relatively low path for the policy rate because the desire to raise
inflation to 2 percent is not tempered by any aversion to the undershooting of the natural
rate of unemployment that helps achieve this outcome. In this simulation, the tighter
labor market causes inflation to reach 2 percent more quickly than in the case of equal
weights; inflation then edges above the Committee’s longer-run objective for a few years.
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optimal control simulations under different assumptions about policymakers’ preferences,
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Strategies
Optimal Control and the Loss Function
Beginning with the current Tealbook, the exhibit “Optimal Control Simulations under
Commitment” presents optimal control simulations of the FRB/US model derived
using four loss functions, illustrating how policymakers’ preferences concerning
macroeconomic outcomes influence the choice of a policy path. Each optimal control
policy is a path of the federal funds rate that minimizes a given loss function in the
FRB/US model, conditional on the staff’s extended Tealbook projection. The four loss
functions differ with respect to the weights they assign to the discounted sum of
squared inflation gaps (measured as the difference between the four‐quarter change
in headline PCE prices and the Committee’s 2 percent objective), unemployment gaps
(measured as the difference between the unemployment rate and the staff’s estimate
of the natural rate), and changes in the federal funds rate. The table below
summarizes the weights assigned under the four loss functions.1
Weights on the components in the loss function
Unemployment gap
Changes in the
Inflation gap
federal funds rate
ugap<0
ugap≥0
Equal weights
Asymmetric weight
on ugap
Large weight
on inflation gap
Minimal weight on
rate adjustment
1
1
1
1
1
0
1
1
5
1
1
1
1
1
1
0.01
The first loss function (labeled “equal weights”) has been featured routinely in past
Tealbooks; it assigns the same weight to each of the three sources of loss. With these
penalties for inflation and unemployment gaps, this formulation recognizes the
Committee’s dual mandate to promote stable prices and maximum employment—
taking what is arguably a balanced view of the relative importance of these gaps to
policymakers. The loss function also penalizes changes in the federal funds rate, thus
embodying a preference for policy gradualism. This feature of the loss function may
reflect a variety of non‐modeled concerns, such as caution associated with uncertainty
about the structure and the state of the economy or policymakers’ desire to reduce
the risks to financial stability from volatility in interest rates.2
The second loss function (labeled “asymmetric weight on ugap”) assigns no losses to
unemployment outcomes below the natural rate but otherwise attaches equal
weights to all arguments in the loss function. Policymakers with such preferences
may subscribe to the view that the costs associated with output and employment
1
The appendix provides further details on the loss functions and the optimal control approach.
For a discussion of policy gradualism, see Ben S. Bernanke (2004), “Gradualism,” speech
delivered at an economics luncheon co‐sponsored by the Federal Reserve Bank of San Francisco
(Seattle Branch) and the University of Washington, Seattle, Washington, May 20.
2
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June 9, 2016
falling short of their potential levels by some amount are appreciably larger than the
costs associated with output and employment exceeding their potential levels to the
same extent. For example, a sustained period of high unemployment may result in
the loss of job‐specific skills and, more generally, in a deterioration of human capital;
by contrast, there is no obvious cost when the unemployment rate is below the
natural rate. Thus, policymakers who share these preferences may not view low
unemployment as an undesirable outcome in itself.3
The third loss function (labeled “large weight on inflation gap”) places a higher
weight on inflation than the equal‐weights specification while keeping the weights
assigned to the unemployment gap and changes in the federal funds rate the same.
Policymakers with these preferences may be more concerned about the distortionary
effects of inflation than is an equal‐weights policymaker. Moreover, they might note
that, in response to aggregate demand shocks, policies that aim to close the inflation
gap would also narrow the unemployment gap. Alternatively, placing a relatively high
weight on inflation deviations can be interpreted as a pragmatic response to
uncertainty about estimates of the natural rate of unemployment and the risk that
responding to poorly estimated unemployment gaps could lead to policy mistakes.
In contrast to the first three loss functions, the fourth loss function (labeled “minimal
weight on rate adjustments”) describes the preferences of a policymaker who sees
interest rate changes as entailing little, if any, cost. Such a policymaker may not feel
burdened by the sort of “non‐modeled concerns” noted above, or may feel that such
concerns do not warrant a preference for gradualism. Accordingly, policymakers with
these preferences would find it desirable to adjust policy rates more quickly and by
larger amounts in response to shocks to the economy than policymakers who
penalize changes in the federal funds rate.
All four loss functions aim to achieve the Committee’s 2 percent inflation objective
and a zero unemployment gap in the long run. However, the loss functions differ in
terms of how they trade off deviations from the Committee’s long‐run objectives over
the medium run. Accordingly, policymakers whose preferences are represented by
different loss functions may have different views about which monetary policy
strategies and associated macroeconomic outcomes are optimal.
3
In stochastic simulations of a canonical New Keynesian model in which policymakers act under
discretion and minimize expected losses that are symmetric in the inflation and output gaps, the
average inflation rate is below policymakers’ objective if policy is occasionally constrained by the
effective lower bound. By contrast, these policymakers may achieve, on average, an inflation rate
closer to the central bank’s objective when they attach zero weight on positive output gaps; see
Christopher Gust, David López‐Salido, and Steve Meyer (2016), “Asymmetric Policy Strategies and
the Effective Lower Bound,” unpublished paper, Board of Governors of the Federal Reserve System,
Division of Monetary Affairs, June. Related work includes Timothy S. Hills, Taisuke Nakata, and
Sebastian Schmidt (2016), “The Risky Steady State and the Interest Rate Lower Bound,” Finance and
Economics Discussion Series, Board of Governors of the Federal Reserve System, January, as well as
Susanto Basu and Brent Bundick (2015), “Endogenous Volatility at the Zero Lower Bound:
Implications for Stabilization Policy,” The Federal Reserve Bank of Kansas City, Research Working
Paper, January.
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The third simulation, labeled “large weight on inflation gap,” posits a loss
Strategies
function that assigns a cost to above-target or below-target inflation that is five times
larger than under the specification with equal weights. The resulting optimal strategy is
only a little more accommodative than in the case with equal weights, even though the
losses associated with undershooting the inflation objective in coming years are markedly
larger. The reason is that, in the FRB/US model, policymakers face an unappealing
tradeoff because inflation responds little to resource utilization. Hence, policymakers
would need to engineer a substantial undershooting of the natural rate of unemployment,
which they see as costly, in order to raise inflation in the near term by a modest amount.5
The fourth simulation, labeled “minimal weight on rate adjustments,” uses a loss
function that assigns a very small cost to changes in the federal funds rate but is
otherwise identical to the loss function with equal weights. In the resulting optimal
strategy, the federal funds rate rises faster than under the specification with equal weights
over the next few years in an effort to contain the projected undershooting of the natural
rate of unemployment. The paths for the real federal funds rate and the real 10-year
Treasury yield are also higher than in the case of equal weights. While this policy affects
the trajectory for inflation relatively little, it keeps the unemployment rate close to the
staff’s estimate of the natural rate.
The next four exhibits tabulate the simulation results for key variables under the
policy rule and optimal control simulations described above.
5
If the “large weight on inflation gap” specification did not penalize the unemployment gap at all,
then the adverse tradeoff would disappear and policy would be markedly more accommodative.
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Outcomes of Policy Rule Simulations
Measure and policy
2016
2017
2018
2019
2020
Nominal federal funds rate¹
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
2.4
2.5
1.0
0.8
0.8
2.8
3.0
1.9
2.1
1.6
3.3
3.6
2.8
2.9
2.6
3.5
3.8
3.4
3.0
3.3
3.5
3.7
3.6
2.9
3.6
Real GDP
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
1.8
1.8
1.9
1.9
1.9
2.2
2.1
2.3
2.6
2.4
2.1
2.0
2.1
2.3
2.1
1.8
1.8
1.7
1.9
1.6
1.7
1.7
1.5
1.7
1.5
Unemployment Rate¹
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
4.9
4.9
4.8
4.8
4.8
4.7
4.8
4.6
4.5
4.5
4.4
4.6
4.3
4.1
4.3
4.4
4.5
4.3
4.0
4.3
4.5
4.6
4.5
4.1
4.5
Total PCE prices
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
1.3
1.3
1.3
1.3
1.3
1.7
1.6
1.6
1.8
1.7
1.8
1.8
1.8
2.0
1.8
2.0
1.9
1.9
2.1
1.9
2.0
2.0
2.0
2.2
2.0
Core PCE prices
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.8
1.6
1.8
1.8
1.8
2.0
1.8
2.0
1.9
1.9
2.1
1.9
2.0
2.0
2.0
2.2
2.0
1. Percent, average for the fnal quarter of the period.
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(Percent change, annual rate, from end of preceding period except as noted)
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Outcomes of Policy Rule Simulations, Quarterly
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(Four-quarter percent change, except as noted)
2016
2017
Measure and policy
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Nominal federal funds rate¹
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
2.4
2.4
0.7
0.6
0.6
2.4
2.5
1.0
0.8
0.8
2.3
2.3
1.2
1.2
0.9
2.4
2.4
1.5
1.5
1.1
2.6
2.7
1.7
1.9
1.4
2.8
3.0
1.9
2.1
1.6
Real GDP
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
2.1
2.1
2.1
2.1
2.1
1.6
1.6
1.6
1.6
1.6
1.7
1.7
1.7
1.6
1.7
1.8
1.8
1.9
1.9
1.9
1.9
1.8
2.1
2.2
2.1
2.0
1.9
2.2
2.4
2.3
2.0
1.9
2.3
2.5
2.3
2.2
2.1
2.3
2.6
2.4
Unemployment Rate¹
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
4.9
4.9
4.9
4.9
4.9
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.9
4.9
4.8
4.8
4.8
5.0
5.0
4.9
4.8
4.8
4.9
4.9
4.8
4.7
4.7
4.8
4.9
4.7
4.6
4.6
4.7
4.8
4.6
4.5
4.5
Total PCE prices
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.3
1.3
1.3
1.3
1.3
1.6
1.6
1.6
1.7
1.6
1.6
1.5
1.5
1.7
1.5
1.6
1.6
1.6
1.7
1.6
1.7
1.6
1.6
1.8
1.7
Core PCE prices
Taylor (1993)
Taylor (1999)
Inertial Taylor (1999)
First-difference
Extended Tealbook baseline
1.7
1.7
1.7
1.7
1.7
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.4
1.4
1.4
1.5
1.4
1.5
1.4
1.5
1.6
1.5
1.5
1.5
1.5
1.7
1.5
1.6
1.6
1.6
1.8
1.6
1. Percent, average for the quarter.
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Outcomes of Optimal Control Simulations under Commitment
Measure and policy
2016
2017
2018
2019
2020
Nominal federal funds rate¹
Equal weights
Aymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.3
0.6
1.3
1.8
0.8
3.0
0.9
2.8
3.8
1.6
4.1
1.4
3.9
4.8
2.6
4.5
1.8
4.2
4.5
3.3
4.5
2.3
4.2
4.4
3.6
Real GDP
Equal weights
Aymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.8
2.0
1.8
1.8
1.9
1.9
2.9
2.0
1.7
2.4
1.8
2.5
1.9
1.7
2.1
1.6
1.9
1.7
1.7
1.6
1.7
1.4
1.7
1.8
1.5
Unemployment rate¹
Equal weights
Aymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
4.9
4.8
4.9
4.9
4.8
4.8
4.2
4.8
5.0
4.5
4.8
3.7
4.7
4.9
4.3
4.8
3.6
4.7
4.9
4.3
4.9
3.9
4.8
4.9
4.5
Total PCE prices
Equal weights
Aymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.2
1.3
1.3
1.2
1.3
1.6
1.8
1.6
1.6
1.7
1.7
1.9
1.8
1.7
1.8
1.8
2.0
1.9
1.8
1.9
1.9
2.1
2.0
1.9
2.0
Core PCE prices
Equal weights
Aymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.5
1.6
1.5
1.5
1.6
1.5
1.7
1.6
1.5
1.6
1.7
1.9
1.8
1.7
1.8
1.8
2.0
1.9
1.8
1.9
1.9
2.1
2.0
1.9
2.0
1. Percent, average for the fnal quarter of the period.
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Strategies
(Percent change, annual rate, from end of preceding period except as noted)
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Outcomes of Optimal Control Simulations under Commitment, Quarterly
Strategies
(Four-quarter percent change, except as noted)
2016
2017
Measure and policy
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Nominal federal funds rate¹
Equal weights
Asymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.9
0.5
0.8
1.2
0.6
1.3
0.6
1.3
1.8
0.8
1.8
0.7
1.7
2.3
0.9
2.2
0.7
2.1
2.9
1.1
2.6
0.8
2.5
3.4
1.4
3.0
0.9
2.8
3.8
1.6
Real GDP
Equal weights
Asymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
2.1
2.1
2.1
2.1
2.1
1.6
1.6
1.6
1.6
1.6
1.7
1.6
1.7
1.7
1.7
1.8
2.0
1.8
1.8
1.9
1.9
2.3
1.9
1.8
2.1
1.9
2.6
2.0
1.7
2.3
1.8
2.8
1.9
1.6
2.3
1.9
2.9
2.0
1.7
2.4
Unemployment rate¹
Equal weights
Asymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
4.9
4.9
4.9
4.9
4.9
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.8
4.9
4.8
4.9
4.9
4.8
5.0
4.8
4.9
5.0
4.8
4.9
4.6
4.9
5.0
4.7
4.9
4.4
4.8
5.0
4.6
4.8
4.2
4.8
5.0
4.5
Total PCE prices
Equal weights
Asymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.0
1.2
1.3
1.3
1.2
1.3
1.6
1.7
1.6
1.6
1.6
1.5
1.6
1.5
1.5
1.5
1.5
1.7
1.5
1.5
1.6
1.6
1.8
1.6
1.6
1.7
Core PCE prices
Equal weights
Asymmetric weight on ugap
Large weight on infation gap
Minimal weight on rate adjustments
Extended Tealbook baseline
1.7
1.7
1.7
1.7
1.7
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.6
1.5
1.6
1.5
1.5
1.6
1.4
1.5
1.4
1.4
1.4
1.4
1.5
1.4
1.4
1.5
1.4
1.6
1.5
1.4
1.5
1.5
1.7
1.6
1.5
1.6
1. Percent, average for the quarter.
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June 9, 2016
POLICY RULES USED IN “MONETARY POLICY STRATEGIES”
The table below gives the expressions for the four simple policy rules reported in
“Monetary Policy Strategies.”
denotes the nominal federal funds rate for quarter t, and 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 ( and
| ), the output gap estimate for the
current period (ygapt), and the forecast of the three-quarter-ahead annual change in the output gap
(4ygapt+3|t). The value of policymakers’ longer-run inflation objective, denoted πLR, is 2 percent.
Taylor (1993) rule
0.5
Taylor (1999) rule
0.5
Inertial Taylor (1999) rule
First-difference rule
0.85
0.5
0.15
0.5
|
0.5Δ
0.5
|
The first two of the selected rules were studied by Taylor (1993, 1999), while the inertial
version of the Taylor (1999) rule has been featured prominently in analysis by Board staff.1 The
, are constant and chosen so that they are consistent with a
intercepts of these rules, denoted
2 percent longer-run inflation objective and a longer-run real federal funds rate of 1 percent, a
value used in the FRB/US model.2 The prescriptions of the first-difference rule do not depend on
the level of the output gap or the longer-run real interest rate; see Orphanides (2003).
Near-term prescriptions from the four policy rules are calculated taking as given the
Tealbook projections for inflation and the output gap. When the Tealbook is published early in a
quarter, the prescriptions are shown for the current and next quarters. When the Tealbook is
published late in a quarter, the prescriptions are shown for the next two quarters. Rules that
include a lagged policy rate as a right-hand-side variable are conditioned on the lagged federal
funds rate in the Tealbook projection for the first quarter shown, and then conditioned on their
simulated lagged federal funds rate for the second quarter shown. The lines labeled “Previous
Tealbook, adjusted” report prescriptions conditional on the previous Tealbook projections for
; for rules that
inflation and the output gap but taking into account the current estimate of
1
See, for example, Erceg and others (2012).
All nominal and real federal funds rates reported in the Monetary Policy Strategies section are
expressed on the same 360-day basis as the published federal funds rate. Consistent with the methodology
in the FRB/US model, the simple rules are first implemented on a fully-compounded, 365-day basis and
then converted to a 360-day basis.
2
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Appendix
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Strategies
include a lagged policy rate, the prescriptions for the first quarter shown use the lagged policy
rate in the current Tealbook projection.
REAL FEDERAL FUNDS RATE ESTIMATES
The bottom panel of the exhibit titled “Policy Rules and the Staff Projection” provides an
estimate of one notion of the equilibrium real federal funds rate, r*. This measure is an estimate
of the real federal funds rate that, if maintained over a 12-quarter period (beginning in the current
quarter), makes the output gap equal to zero in the final quarter of that period using the output
projection from FRB/US, the staff’s large-scale econometric model of the U.S. economy. This
“Tealbook-consistent FRB/US r*” depends on a broad array of economic factors, some of which
take the form of projected values of the model’s exogenous variables. It 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 “average projected real federal funds rate” reported in the panel is the average of the
real federal funds rate under the Tealbook baseline projection calculated over the same
12−quarter period as the Tealbook-consistent FRB/US r*. The average projected real federal
funds rate and r* need not be associated with the same macroeconomic outcomes even when their
values are identical. The reason is that, in the r* simulations, the real federal funds rate is held
constant over the entire 12-quarter period to close the output gap at the end of this timeframe
whereas, in the Tealbook baseline, the real federal funds rate can vary over time. Distinct paths
of real short-term rates can, in turn, generate different paths for inflation and economic activity.
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; this period
extends several decades beyond the time horizon shown in the exhibits. The simulations are
conducted under the assumption that market participants as well as price and wage setters have
perfect foresight, and are predicated on the staff’s extended Tealbook projection, which includes
the macroeconomic effects of the Committee’s large-scale asset purchase programs. When the
Tealbook is published early in a quarter, all of the simulations begin in that quarter; when the
Tealbook is published late in a quarter, all of the simulations begin in the subsequent quarter.
COMPUTATION OF THE OPTIMAL CONTROL POLICY UNDER COMMITMENT
The optimal control simulations posit that policymakers minimize a discounted weighted
sum of squared inflation gaps (measured as the difference between four-quarter headline PCE
, and the Committee’s 2 percent objective), squared unemployment gaps (
,
inflation,
measured as the difference between the unemployment rate and the staff’s estimate of the natural
Page 16 of 54
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rate), and squared changes in the federal funds rate. The resulting loss function, shown below,
embeds the assumption that policymakers discount the future using a quarterly discount factor
0.9963:
.
,
The exhibit “Optimal Control Simulations under Commitment” considers four
specifications of the weights on the inflation gap, the unemployment gap, and the rate change
components of the loss function. The accompanying box “Optimal Control and the Loss
Function” provides motivations for the four specifications of the weights.
The first specification, titled “equal weights,” assigns equal weights to all three
components at all times. The second specification, titled “asymmetric weight on ugap,” uses the
same weights as the equal-weights specification whenever the unemployment rate is above the
staff’s estimate of the natural rate but it assigns no penalty to the unemployment rate falling
below the natural rate. The third specification, titled “large weight on inflation gap,” attaches a
relatively large weight to inflation gaps. The fourth specification, titled “minimal weight on rate
adjustments,” places almost no weight on changes in the federal funds rate.3 The table below
shows the weights used in the four specifications. The optimal control policy and associated
outcomes depend on the relative (rather than the absolute) values of the weights.
,
0
0
Equal weights
1
1
1
1
Asymmetric weight
on ugap
Large weight
on inflation gap
Minimal weight on
rate adjustment
1
0
1
1
5
1
1
1
1
1
1
0.01
For each of these four specifications of the loss function, the optimal control policy is the
path for the federal funds rate that minimizes the loss function in the FRB/US model, subject to
the effective lower bound constraint on nominal interest rates, under the assumption of perfect
foresight, and conditional on the staff’s extended Tealbook projection. Policy tools other than the
federal funds rate are taken as given and subsumed within the Tealbook baseline. The path
chosen by policymakers today is assumed to be credible, meaning that decision makers in the
model see this path as being a binding commitment on future Committee decisions; the optimal
3
The inclusion of a minimal but strictly positive weight on changes in the federal funds rate helps
ensure a well-behaved numerical solution.
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control policy takes as given the initial lagged value of the federal funds rate but is otherwise
unconstrained by policy decisions made prior to the simulation period. The discounted losses are
calculated over a period that ends sufficiently far in the future that extending that period farther
would not affect the policy prescriptions shown in the exhibits.
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,” memorandum to the Federal Open Market Committee,
Board of Governors of the Federal Reserve System, Divisions of International Finance,
Monetary Affairs, and Research and Statistics, July 18.
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.
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Monetary Policy Alternatives
A key question for this meeting is whether the Committee sees the recent data as
consistent with economic growth picking up in the second quarter, labor market
conditions continuing to strengthen, and inflation making progress toward the
Committee’s 2 percent objective. In light of the crosscurrents in the available data,
the alternatives offer somewhat different answers to this key question as well as
different characterizations of risks to the economic outlook; accordingly, the
statements offer different messages about the current and future stance of policy.
Regarding the characterization of recent incoming economic data, each alternative
says that “growth in economic activity appears to have picked up” and that “the pace
of improvement in the labor market has slowed,” but the sentence construction in
Alternative A is intended to signal that the Committee places more weight on the
weaker payroll data than on the stronger spending data.
o With respect to specific labor market indicators, Alternative B notes that
“although the unemployment rate has declined, job gains have diminished.”
o Alternative A highlights the deceleration in growth of payroll employment by
stating that “job gains have slowed noticeably.”
o Alternative C, in contrast, emphasizes the noticeable decline in the
unemployment rate over the slowdown in job gains.
The three alternatives convey different views on the likelihood of inflation continuing
to run below 2 percent.
o Alternative C states that low inflation “largely” reflects earlier declines in
energy prices and in prices of non-energy imports. Continued low inflation
“partly” reflects those factors, according to Alternative B, and “only partly” in
Alternative A.
o Alternatives B and C describe indicators of inflation compensation as
remaining “low,” and survey measures of longer-run inflation expectations as
“little changed.” Alternative A instead notes that indicators of inflation
compensation and longer-term inflation expectations “have declined.”
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In summarizing the economic outlook and its implications for monetary policy,
Alternatives B repeats language from the April statement, noting the Committee’s
expectation that “with gradual adjustments in the stance of monetary policy,
economic activity will expand at a moderate pace.” Alternative C indicates that with
gradual adjustments in the stance of monetary policy “economic activity and
employment will expand at moderate rates.” Alternative A signals that policy
adjustments are not likely to occur soon by dropping the reference to “gradual
adjustments” and instead expressing an expectation that economic activity will
expand at a moderate pace “with appropriate monetary policy accommodation.”
o All three statements reaffirm the Committee’s expectation that inflation will
“remain low in the near term,” in part because of earlier declines in energy
Alternatives
prices and in prices of non-energy imports, but that inflation will rise to
2 percent over the medium term as the transitory effects of those earlier
declines dissipate and the labor market strengthens further. And each
Alternative notes that the Committee will closely monitor inflation.
Alternative B and Alternative C do not contain an explicit assessment of the balance
of risks; they maintain the language from the April statement that the Committee
“continues to closely monitor global economic and financial developments” along
with inflation indicators. Alternative A cautions that the Committee “sees the risks to
the economic outlook as tilted somewhat to the downside.”
With respect to the policy decision, Alternative A, Alternative B, and one version of
Alternative C maintain the current target range; another version of Alternative C
raises the target range. More specifically:
o Alternative B keeps the target range and repeats paragraphs 3 and 4 of the
April statement. By doing so, Alternative B indicates that the Committee still
expects to increase the federal funds rate target range but steps away from
signaling the likely timing of that action.
o Alternative A communicates a judgment that the economic outlook and
associated risks warrant deferring increases in the target range “until the risks
to the economic outlook are more closely balanced and inflation moves closer
to 2 percent on a sustained basis.” If the staff’s forecast proves correct, the
inflation condition is unlikely to be met in short order.
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-
June 9, 2016
By the time the inflation and risk conditions specified in Alternative A
are met, the labor market might have strengthened substantially
further, which would then call for relatively rapid increases in the
target range. Accordingly, Alternative A drops the indication that
future adjustments to the stance of policy will be “only gradual.”
o Alternative C with the first version of paragraph 3 maintains the current target
range but strongly suggests that an increase in the federal funds rate is likely
in coming months if labor market indicators and other incoming information
suggest that the economy is growing at a moderate pace, consistent with
-
Under this version of Alternative C, policymakers would wait for
additional information to increase their confidence that the economic
outlook is progressing in line with the Committee’s objectives before
increasing the target range, but also would signal that they expect the
uncertainty to be resolved in favor of raising rates at an upcoming
meeting.
o Alternative C with the second version of paragraph 3 raises the target range by
25 basis points and maintains the existing guidance about future monetary
policy actions, consistent with a view that the economy will likely evolve in a
way that will warrant further gradual increases in the federal funds rate target
range.
Page 21 of 54
Alternatives
sustaining maximum employment and a return to 2 percent inflation.
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APRIL 2016 FOMC Statement
Alternatives
1. Information received since the Federal Open Market Committee met in March
indicates that labor market conditions have improved further even as growth in
economic activity appears to have slowed. Growth in household spending has
moderated, although households’ real income has risen at a solid rate and consumer
sentiment remains high. Since the beginning of the year, the housing sector has
improved further but business fixed investment and net exports have been soft. A
range of recent indicators, including strong job gains, points to additional
strengthening of the labor market. Inflation has continued to run below the
Committee’s 2 percent longer-run objective, partly reflecting earlier declines in
energy prices and falling prices of non-energy imports. Market-based measures of
inflation compensation remain low; survey-based measures of longer-term inflation
expectations are little changed, on balance, in recent months.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee currently expects that, with gradual
adjustments in the stance of monetary policy, economic activity will expand at a
moderate pace and labor market indicators will continue to strengthen. Inflation is
expected to remain low in the near term, in part because of earlier declines in energy
prices, but to rise to 2 percent over the medium term as the transitory effects of
declines in energy and import prices dissipate and the labor market strengthens
further. The Committee continues to closely monitor inflation indicators and global
economic and financial developments.
3. Against this backdrop, the Committee decided to maintain the target range for the
federal funds rate at ¼ to ½ percent. The stance of monetary policy remains
accommodative, thereby supporting further improvement in labor market conditions
and a return to 2 percent inflation.
4. In determining the timing and size of future adjustments to the target range for the
federal funds rate, the Committee will assess realized and expected economic
conditions relative to 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 and international developments. In light of
the current shortfall of inflation from 2 percent, the Committee will carefully monitor
actual and expected progress toward its inflation goal. The Committee expects that
economic conditions will evolve in a manner that will warrant only gradual increases
in the federal funds rate; the federal funds rate is likely to remain, for some time,
below levels that are expected to prevail in the longer run. However, the actual path
of the federal funds rate will depend on the economic outlook as informed by
incoming data.
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Alternatives
5. 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, and it anticipates doing so until normalization of the level of the federal
funds rate is well under way. This policy, by keeping the Committee’s holdings of
longer-term securities at sizable levels, should help maintain accommodative
financial conditions.
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Alternatives
JUNE 2016 Alternative A
1. Information received since the Federal Open Market Committee met in March April
indicates that, labor market conditions have improved further even as although
growth in economic activity appears to have slowed picked up, the pace of
improvement in the labor market has slowed. Growth in household spending has
moderated, strengthened. although households’ real income has risen at a solid rate
and consumer sentiment remains high. Since the beginning of the year, the housing
sector has improved further continued to improve and the drag from net exports
appears to have diminished, but business fixed investment and net exports have has
been soft. A range of recent indicators, including strong job gains, points to
additional strengthening of the labor market. Although the unemployment rate has
declined, job gains have slowed noticeably. Inflation has continued to run below
the Committee’s 2 percent longer-run objective, only partly reflecting because of
earlier declines in energy prices and falling in prices of non-energy imports.
Moreover, market-based measures of inflation compensation remain low; and
survey-based measures of longer-term inflation expectations are little changed, on
balance, in recent months have declined.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee currently expects that, with gradual
adjustments in the stance of appropriate monetary policy accommodation,
economic activity will expand at a moderate pace and labor market indicators will
continue to strengthen. Inflation is expected to remain low in the near term, in part
because of earlier declines in energy prices, but to rise to 2 percent over the medium
term as the transitory effects of past declines in energy and import prices dissipate
and the labor market strengthens further. The Committee continues to closely
monitor inflation indicators and global economic and financial developments sees the
risks to the economic outlook as tilted somewhat to the downside.
3. Against this backdrop, the Committee decided to maintain the target range for the
federal funds rate at ¼ to ½ percent. The stance of monetary policy remains
accommodative, thereby supporting further improvement in labor market conditions
and a return to 2 percent inflation. The Committee judges that an increase in the
target range will not be warranted until the risks to the outlook are more closely
balanced and inflation moves closer to 2 percent on a sustained basis.
4. In determining the When adjustments to the target range become appropriate,
their timing and size of future adjustments to the target range for the federal funds
rate, the Committee will assess will depend on the Committee’s assessment of
realized and expected economic conditions relative to 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 and
international developments. In light of the current shortfall of inflation from 2
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percent, the Committee will carefully monitor actual and expected progress toward its
inflation goal. The Committee expects that economic conditions will evolve in a
manner that will warrant only gradual increases in the federal funds rate; the federal
funds rate is likely to remain remaining, for some time, below levels that are
expected to prevail in the longer run. However, the actual path of the federal funds
rate will depend on the economic outlook as informed by incoming data.
Alternatives
5. 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, and it anticipates doing so until normalization of the level of the federal
funds rate is well under way. This policy, by keeping the Committee’s holdings of
longer-term securities at sizable levels, should help maintain accommodative
financial conditions.
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Alternatives
JUNE 2016 Alternative B
1. Information received since the Federal Open Market Committee met in March April
indicates that the pace of improvement in the labor market conditions have
improved further has slowed even as while growth in economic activity appears to
have slowed picked up. Although the unemployment rate has declined, job gains
have diminished. Growth in household spending has moderated, strengthened.
although households’ real income has risen at a solid rate and consumer sentiment
remains high. Since the beginning of the year, the housing sector has improved
further continued to improve and the drag from net exports appears to have
lessened, but business fixed investment and net exports have has been soft. A range
of recent indicators, including strong job gains, points to additional strengthening of
the labor market. Inflation has continued to run below the Committee’s 2 percent
longer-run objective, partly reflecting earlier declines in energy prices and falling in
prices of non-energy imports. Market-based measures of inflation compensation
remain low; survey-based measures of longer-term inflation expectations are little
changed, on balance, in recent months.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee currently expects that, with gradual
adjustments in the stance of monetary policy, economic activity will expand at a
moderate pace and labor market indicators will continue to strengthen. Inflation is
expected to remain low in the near term, in part because of earlier declines in energy
prices, but to rise to 2 percent over the medium term as the transitory effects of past
declines in energy and import prices dissipate and the labor market strengthens
further. The Committee continues to closely monitor inflation indicators and global
economic and financial developments.
3. Against this backdrop, the Committee decided to maintain the target range for the
federal funds rate at ¼ to ½ percent. The stance of monetary policy remains
accommodative, thereby supporting further improvement in labor market conditions
and a return to 2 percent inflation.
4. In determining the timing and size of future adjustments to the target range for the
federal funds rate, the Committee will assess realized and expected economic
conditions relative to 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 and international developments. In light of
the current shortfall of inflation from 2 percent, the Committee will carefully monitor
actual and expected progress toward its inflation goal. The Committee expects that
economic conditions will evolve in a manner that will warrant only gradual increases
in the federal funds rate; the federal funds rate is likely to remain, for some time,
below levels that are expected to prevail in the longer run. However, the actual path
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of the federal funds rate will depend on the economic outlook as informed by
incoming data.
Alternatives
5. 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, and it anticipates doing so until normalization of the level of the federal
funds rate is well under way. This policy, by keeping the Committee’s holdings of
longer-term securities at sizable levels, should help maintain accommodative
financial conditions.
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Alternatives
JUNE 2016 ALTERNATIVE C
1. Information received since the Federal Open Market Committee met in March April
indicates that the pace of improvement in the labor market conditions have
improved further has slowed even as while growth in economic activity appears to
have slowed picked up. Growth in household spending has moderated,
strengthened. although households’ real income has risen at a solid rate and
consumer sentiment remains high. Since the beginning of the year, the housing sector
has improved further continued to improve and the drag from net exports appears
to have diminished, but business fixed investment and net exports have has been
soft. A range of recent indicators, including strong job gains, points to additional
strengthening of the labor market. Although job gains slowed, the unemployment
rate has declined noticeably. Inflation has risen somewhat, but it has continued to
run below the Committee’s 2 percent longer-run objective, partly reflecting largely
because of earlier declines in energy prices and falling in prices of non-energy
imports. Market-based measures of inflation compensation remain low; survey-based
measures of longer-term inflation expectations are little changed, on balance, in
recent months.
2. Consistent with its statutory mandate, the Committee seeks to foster maximum
employment and price stability. The Committee currently expects that, with gradual
adjustments in the stance of monetary policy, economic activity and employment
will expand at a moderate pace rates. and labor market indicators will continue to
strengthen. Inflation is expected to remain low in the near term, in part because of
earlier declines in energy prices, but to rise to 2 percent over the medium term as the
transitory effects of past declines in energy and import prices dissipate and the labor
market strengthens further. The Committee continues to closely monitor inflation
indicators and global economic and financial developments.
3. Against this backdrop, The Committee decided today to maintain the target range for
the federal funds rate at ¼ to ½ percent but agreed that a modest increase in the
federal funds rate will likely be appropriate in coming months if incoming
information confirms the Committee’s expectations for economic activity, the
labor market, and inflation. The stance of monetary policy remains
accommodative, thereby supporting further improvement strengthening in labor
market conditions and a return to 2 percent inflation.
OR
3.ʹ In light of recent and expected progress toward its statutory goals, the Committee
decided to maintain increase the target range for the federal funds rate at ¼ to ½ to ¾
percent. The stance of monetary policy remains accommodative, even after this
increase, thereby supporting further improvement strengthening in labor market
conditions and a return to 2 percent inflation.
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5. 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, and it anticipates doing so until normalization of the level of the federal
funds rate is well under way. This policy, by keeping the Committee’s holdings of
longer-term securities at sizable levels, should help maintain accommodative
financial conditions.
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Alternatives
4. In determining the timing and size of future adjustments to the target range for the
federal funds rate, the Committee will assess realized and expected economic
conditions relative to 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 and international developments. In light of
the current shortfall of inflation from 2 percent, the Committee will carefully monitor
actual and expected progress toward its inflation goal. The Committee expects that
economic conditions will evolve in a manner that will warrant only gradual increases
in the federal funds rate; the federal funds rate is likely to remain, for some time,
below levels that are expected to prevail in the longer run. However, the actual path
of the federal funds rate will depend on the economic outlook as informed by
incoming data.
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THE CASE FOR ALTERNATIVE B
Economic Outlook
The somewhat conflicting information received over the intermeeting period may
have left policymakers more uncertain whether the data point to an economy that is
evolving in line with their modal forecasts of moderate growth.
o Stronger-than-expected readings on some components of final demand,
particularly household spending, led the staff to raise its projection of real
GDP growth in the first half of the year to an annual rate of 1.5 percent, but
left the projection for the year as a whole, now at 1.9 percent, essentially
Alternatives
unchanged.
o While the unemployment rate has declined since the April FOMC meeting,
this decline largely reflects a step-down in the labor force participation rate;
meanwhile, nonfarm payroll employment decelerated significantly since
March.
o Policymakers may think that the sluggish employment growth is likely to
prove transitory, and that a pickup in job gains is likely to follow the current
quarter’s acceleration in economic activity. But policymakers may
nonetheless see a risk that recent weakness in employment gains together with
the ongoing contraction in business fixed investment point to a persistent
slowdown in aggregate demand.
Twelve-month core and headline inflation appear to have been trending up since the
fall of last year. However, inflation has continued to run below the Committee’s
2 percent target. Moreover, inflation compensation is low and survey measures of
longer-run inflation expectations are little changed.
o Policymakers may continue to judge that the low readings of inflation
compensation likely reflect risk and liquidity premiums, to a large extent.
o Policymakers may continue to anticipate that PCE inflation will move up to
2 percent over the medium term, now that energy prices are no longer falling.
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Policy Strategy
Given the crosscurrents in recent data on the real economy, and with inflation
continuing to run below the Committee’s 2 percent target, policymakers may judge it
prudent to wait for evidence that domestic demand will continue to grow at a
moderate pace and that the labor market will strengthen further before taking the next
step in normalizing the stance of monetary policy.
In addition, policymakers may judge that downside risks from global economic and
financial developments remain material. For example, they might see a U.K. vote to
leave the EU as posing risks to the U.S. domestic outlook and note that this
Policymakers may conclude that the optimal response to such uncertainty and risks is
to leave the federal funds rate unchanged at this meeting, pending their assessment of
future evidence on the economic outlook, and to avoid signaling the timing of the
next policy move. They might note that the proximity of nominal rates to the
effective lower bound provides additional support to this wait-and-see posture.
A decision to maintain the current target range for the federal funds rate would be in
line with the expectations of financial market participants.
o According to the Desk’s latest Survey of Primary Dealers and Survey of
Market Participants, respondents perceive there to be only a negligible
probability that the Committee will alter the target range at this meeting.
o The Desk’s surveys suggest that market participants will not be surprised by
the changes in paragraph 1 of Alternative B, particularly the recognition of
stronger spending data but weaker job gains.
o Alternative B may not lead market participants to significantly change the
odds they currently place on a target range increase in July or at subsequent
meetings. Rather, Alternative B may lead market participants to adjust those
odds over time depending on whether the data received after the June meeting
prove to be largely consistent with the Committee’s expectation for sustained
growth of spending and for further labor market strengthening. Expectations
will also be shaped by the new SEP and by the Chair’s press conference.
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Alternatives
uncertainty might well be resolved by the time of their July meeting.
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o Respondents do not anticipate any changes to the Committee’s forward
guidance or reinvestment policy (that is, to paragraphs 4 or 5 of the
statement), both of which Alternative B maintains.
THE CASE FOR ALTERNATIVE C
Economic Outlook
Policymakers might view the combination of a sizable drop in the unemployment rate
and slowing job gains (taking into account that some of the slowing can be explained
by clearly transitory factors) as consistent with the view that the economy has reached
maximum sustainable employment and that growth of labor supply is becoming a
Alternatives
binding constraint on hiring.
o Policymakers might also see the results of the Job Openings and Labor
Turnover Survey for April as consistent with that view: job openings and
separations were stable while hires edged down over the month.
o And policymakers might view the pickup in some measures of wage growth
as consistent with this view, especially in light of the evidence, discussed in
Tealbook A, indicating that real wages are rising faster than labor
productivity.
Household balance sheets have improved, gains in disposable income have been
healthy, and the unemployment rate has declined noticeably. Moreover, the drag
from net exports appears to have diminished. Policymakers may see conditions as
favorable for solid consumption growth and further improvement in the housing
sector and perhaps even in net exports, and so may project that aggregate demand will
grow at a rate no slower than the economy’s potential growth rate even with gradual
increases in the target range for the federal funds rate.
o Accordingly, policymakers might anticipate further tightening of labor market
conditions with increasing upward pressure on wages and, subsequently, on
expected and actual inflation.
Measures of the trend in inflation have moved closer to 2 percent. Policymakers may
conclude that the effect of transitory factors is already subsiding, given the recent
firming in oil prices.
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For all of these reasons, policymakers may be increasingly confident that headline
inflation will be close to the 2 percent objective once the effects of earlier declines in
energy and import prices fade, while increased labor market tightness will suffice to
return headline inflation to the Committee’s longer-run objective.
o Policymakers may attribute the low levels of market-based measures of
longer-term inflation compensation to movements in liquidity and inflation
risk premiums that are unrelated to longer-run inflation outcomes, and the
decline in some survey-based measures to previous declines in energy and
import prices.
Policymakers may see the risks to the economic outlook as approximately balanced,
and the downside risks from global economic and financial developments as having
diminished compared with earlier this year.
o Indeed, policymakers might see alternative scenarios such as the “Weaker
Productivity” scenario in the “Risks and Uncertainty” section of Tealbook A
as increasingly likely.
Policy Strategy
Policymakers may judge that current conditions and the outlook warrant a rate hike at
the June meeting or in the near future.
o They may be concerned that leaving policy rates unchanged in the face of an
unemployment rate that is at or below its longer-run normal level would likely
foster expectations of a prolonged shallow path for the federal funds rate that
would be insufficiently responsive to economic conditions. Such expectations
might well create excess demand and risk an upward drift in longer-term
inflation expectations. In addition, such an expected path could induce further
“reach for yield” or excessive risk-taking behavior in financial markets.
o Policymakers may also be concerned that the public might misinterpret a
statement like Alternative B as an indication that the FOMC is placing too
much weight on transitory financial and economic developments and too little
weight on a solid modal outlook for the economy, labor markets, and
inflation.
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Alternatives
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Policymakers might favor the first version of paragraph 3 if they judged it
prudent not to raise the target range in June but to signal a modest increase in coming
months.
o These policymakers might prefer to wait for further evidence that limited
slack in the economy can account for the recent slowdown in payroll
employment growth, and that the growth of GDP will continue to strengthen
with inflation increasing toward the Committee’s 2 percent target in the rest of
the year.
o Alternatively, policymakers might want to wait to see whether the weak
Alternatives
employment report was an aberration or a sign of further softness ahead.
o These policymakers may prefer to see the uncertainty over the outcome of the
upcoming U.K. referendum on EU membership resolved before the next
increase in the target range.
o They may thus prefer to signal a likely rate increase in July to lean against the
risk that the public might start to expect indefinite delays in policy
normalization.
Policymakers might favor the second version of paragraph 3 if they judged that it
is appropriate to announce a 25 basis point increase in the target range for the federal
funds rate to ½ to ¾ percent.
o These policymakers may note that, even after this increase, the real federal
funds rate would still lie well below the prescriptions from most simple policy
rules and optimal control exercises shown in the “Monetary Policy Strategies”
section of Tealbook B.
Respondents to the Desk’s latest surveys perceive there to be no material odds that
the Committee will change the target range at this meeting, and so a decision to
increase the target range would be very surprising.
o If market participants infer that the Committee intends to pursue a less
accommodative stance of policy going forward than they had expected, for
any given outlook, then medium- and longer-term real interest rates would
rise, equity prices and inflation compensation would likely decline, and the
dollar would appreciate.
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o Nonetheless, if investors see a statement like Alternative C as primarily
reflecting an upbeat assessment of the strength of the U.S. expansion, then
equity prices and inflation compensation might fall less than otherwise, or
even rise.
THE CASE FOR ALTERNATIVE A
Economic Outlook
While economic activity appears to have picked up in recent months, policymakers
might view the weakness in spending indicators for the first quarter, paired with
recent softness of labor market indicators, as suggesting that the Committee’s
optimistic. In particular, solid increases in consumer spending are unlikely to be
sustained if employment continues to grow sluggishly.
o The unexpected weakness in payroll employment growth recently cannot be
fully explained by identifiable transitory factors.
o Revised data now show that payroll gains have been on a declining trend since
last fall.
o The still-high rate of involuntary part-time employment, the low level of the
employment-to-population ratio for prime-age workers, and the limited extent
to which aggregate data have indicated upward pressure on wage growth may
all suggest some remaining slack in labor markets.
Moreover, both headline and core inflation continue to run noticeably below the
Committee’s 2 percent objective and market-based measures of inflation
compensation are not only low but may be sliding, and survey-based measures remain
at or near recent lows.
o Market-based measures of inflation compensation have been at low levels for
a long time. The Michigan survey measure of longer-term inflation
expectations declined to a very low level in April whereas the New York
Fed’s measure of three-year-ahead expected inflation remains at the low end
of its historical range.
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Alternatives
previously stated expectation of moderate growth for the rest of the year is overly
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Policy Strategy
Some policymakers might judge that the recent uptick in core inflation will prove
transitory.
o Policymakers might worry that the failure of inflation to rise to the 2 percent
target over the past several years has become ingrained in longer-term
inflation expectations and that the persistent weakness in inflation
compensation measures suggests that the inflation expectations relevant for
wage and price setting have declined.
o These policymakers might argue that the chronic failure of policy to return
Alternatives
inflation toward 2 percent risks eroding the credibility of the FOMC’s
commitment to achieving that objective, including the statement that
deviations from this objective are considered on a symmetric basis.
Policymakers may believe that the natural rate of unemployment may be lower than
current measures suggest, as described in the “Risk and Uncertainty” section of
Tealbook A. Alternatively, they may see virtues in allowing the labor market to firm
more over the medium term as a way of repairing the damage to the labor market that
resulted from a prolonged period of weak labor demand.
Policymakers may believe that risk management considerations call for signaling that
any further removal of policy accommodation is some time off.
o Policymakers might observe that, given the proximity to the effective lower
bound, the scope for conventional policy measures to support the economy
would be quickly exhausted in the event that adverse shocks were to hit the
economy.
o Policymakers might judge that the neutral rate of interest is low, relative to its
historical norm, and likely to remain so for quite some time, thus exacerbating
the risk that conventional policy could be constrained going forward.
Moreover, unconventional monetary policies provide imperfect substitutes for
conventional policy.
o In addition, policymakers might argue that a U.K. vote to leave the EU could
pose material risks for the domestic outlook; they also may see the factors that
led to the sharp deterioration in financial conditions earlier this year as still
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largely unaddressed. Policymakers might also see new risks emerging in the
domestic outlook, such as those discussed in the “Recession” scenario in the
“Risks and Uncertainty” section of Tealbook A.
For all these reasons, policymakers might prefer a statement along the lines of
Alternative A, to assert that the Committee judges that an increase in the target range
“will not be warranted until the risks to the outlook are more closely balanced and
inflation moves closer to 2 percent on a sustained basis.”
Most respondents in the Desk’s latest surveys expect the Committee continue to
emphasize the gradual nature of its normalization approach and to convey that it still
expects to raise rates this year. The issuance of a postmeeting statement like
Alternative A would therefore surprise financial market participants.
o Investors would likely push further into the future the expected date of the
next rate increase, the expected path for the federal funds rate would likely
flatten further, and longer-term yields would decline.
o If the statement is primarily seen as more accommodative, equity prices and
inflation compensation would likely rise, and the dollar would depreciate.
o Nonetheless, if investors interpret the statement as reflecting an unexpectedly
downbeat assessment of global economic conditions and greater-thananticipated concerns over the downside risks to the outlook, equity prices and
inflation compensation could fall.
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Alternatives
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IMPLEMENTATION NOTE
If the Committee decides to maintain the current target range for the federal funds
rate, an implementation note that indicates no change in the Federal Reserve’s
administered rates—the interest rates on required and excess reserves, the offering rate on
overnight reverse repurchase agreements, and the discount rate—would be issued. If the
Committee instead decides to raise the target range for the federal funds rate, an
implementation note that communicates the changes the Federal Reserve decided to make
to these three policy tools would be issued.
On the following pages, struck-out text indicates language deleted from the April
Alternatives
directive and implementation note, bold red underlined text indicates added language,
and blue underlined text indicates text that links to websites.
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Implementation Note if the Committee maintains the current target range
Release Date: April 27 June 15, 2016
Decisions Regarding Monetary Policy Implementation
The Board of Governors of the Federal Reserve System left unchanged the interest rate
paid on required and excess reserve balances at 0.50 percent.
As part of its policy decision, the Federal Open Market Committee voted to authorize and
direct the Open Market Desk at the Federal Reserve Bank of New York, until instructed
otherwise, to execute transactions in the System Open Market Account in accordance
with the following domestic policy directive:
“Effective April 28 June 16, 2016, the Federal Open Market Committee directs
the Desk to undertake open market operations as necessary to maintain the federal
funds rate in a target range of ¼ to ½ percent, including overnight reverse
repurchase operations (and reverse repurchase operations with maturities of more
than one day when necessary to accommodate weekend, holiday, or similar
trading conventions) at an offering rate of 0.25 percent, in amounts limited only
by the value of Treasury securities held outright in the System Open Market
Account that are available for such operations and by a per-counterparty limit of
$30 billion per day.
The Committee directs the Desk to continue rolling over maturing Treasury
securities at auction and to continue reinvesting principal payments on all agency
debt and agency mortgage-backed securities in agency mortgage-backed
securities. The Committee also directs the Desk to engage in dollar roll and
coupon swap transactions as necessary to facilitate settlement of the Federal
Reserve’s agency mortgage-backed securities transactions.”
More information regarding open market operations may be found on the Federal
Reserve Bank of New York’s website.
The Board of Governors of the Federal Reserve System took no action to change the
discount rate (the primary credit rate), which remains at 1.00 percent.
This information will be updated as appropriate to reflect decisions of the Federal Open Market
Committee or the Board of Governors regarding details of the Federal Reserve’s operational
tools and approach used to implement monetary policy.
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Alternatives
The Federal Reserve has made the following decisions to implement the monetary policy stance
announced by the Federal Open Market Committee in its statement on April 27 June 15, 2016:
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Implementation Note if the Committee raises the target range to ½ to ¾ percent
Release Date: April 27 June 15, 2016
Decisions Regarding Monetary Policy Implementation
The Federal Reserve has made the following decisions to implement the monetary policy stance
announced by the Federal Open Market Committee in its statement on April 27 June 15, 2016:
The Board of Governors of the Federal Reserve System left unchanged the interest rate
paid on required and excess reserve balances at 0.50 percent voted [ unanimously ] to
raise the interest rate paid on required and excess reserve balances to 0.75 percent,
effective June 16, 2016.
As part of its policy decision, the Federal Open Market Committee voted to authorize and
direct the Open Market Desk at the Federal Reserve Bank of New York, until instructed
otherwise, to execute transactions in the System Open Market Account in accordance
with the following domestic policy directive:
Alternatives
“Effective April 28 June 16, 2016, the Federal Open Market Committee directs
the Desk to undertake open market operations as necessary to maintain the federal
funds rate in a target range of ¼ to ½ to ¾ percent, including overnight reverse
repurchase operations (and reverse repurchase operations with maturities of more
than one day when necessary to accommodate weekend, holiday, or similar
trading conventions) at an offering rate of 0.25 0.50 percent, in amounts limited
only by the value of Treasury securities held outright in the System Open Market
Account that are available for such operations and by a per-counterparty limit of
$30 billion per day.
The Committee directs the Desk to continue rolling over maturing Treasury
securities at auction and to continue reinvesting principal payments on all agency
debt and agency mortgage-backed securities in agency mortgage-backed
securities. The Committee also directs the Desk to engage in dollar roll and
coupon swap transactions as necessary to facilitate settlement of the Federal
Reserve’s agency mortgage-backed securities transactions.”
More information regarding open market operations may be found on the Federal
Reserve Bank of New York’s website.
In a related action, the Board of Governors of the Federal Reserve System took no
action to change the discount rate (the primary credit rate), which remains at 1.00 voted [
unanimously ] to approve a ¼ percentage point increase in the discount rate (the
primary credit rate) to 1.25 percent, effective June 16, 2016. In taking this action,
the Board approved requests submitted by the Boards of Directors of the Federal
Reserve Banks of …
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Alternatives
This information will be updated as appropriate to reflect decisions of the Federal Open Market
Committee or the Board of Governors regarding details of the Federal Reserve’s operational
tools and approach used to implement monetary policy.
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Alternatives
(This page is intentionally blank.)
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June 9, 2016
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Projections
BALANCE SHEET AND INCOME
The staff has prepared a projection of the Federal Reserve’s balance sheet and key
elements of the associated income statement that is consistent with the monetary policy
assumptions incorporated in the staff’s forecast presented in Tealbook A.
For the purposes of our projections, we assume that the FOMC will cease
reinvestments of maturing Treasury securities and agency debt as well as principal
received on agency MBS when the federal funds rate reaches a range between 1¼ and
1½ percent. This assumption reflects the staff’s interpretation of the Committee’s
statement that it anticipates continuing reinvestments until normalization of the level of
the federal funds rate is “well under way.” As a result of the more gradual rise in the
federal funds rate in the staff’s current projection, the implied timing for the cessation of
reinvestments has moved to the third quarter of 2017, about three quarters later than
posited in the April Tealbook. Once reinvestments cease, the SOMA portfolio shrinks
through redemptions of maturing Treasury and agency debt securities as well as
paydowns of principal on agency MBS.
that the level of overnight reverse repurchase agreements (ON RRPs) runs at $100 billion
through the end of 2018 before declining to zero by the end of 2019, and that term
deposits and term RRPs are not used.1
Some key features of the projection are highlighted below.
Balance sheet. The size of the portfolio is normalized in the first quarter of 2022,
two quarters later than in the April Tealbook, reflecting the change in the timing
for the cessation of reinvestments (see the solid black lines in the exhibit titled
1
Use of term RRPs or term deposits would result in a shift in the composition of Federal Reserve
liabilities—a decline in reserve balances and an equal increase in term RRPs or term deposits—but would
not produce a change in the overall size of the balance sheet. We also assume that RRPs associated with
foreign official and international accounts remain near their April 30, 2016, level of $243 billion
throughout the projection period.
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Projections
Regarding the Federal Reserve’s use of policy normalization tools, we assume
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Total Assets and Selected Balance Sheet Items
June Tealbook
Total Assets
April Tealbook
Reserve Balances
Billions of dollars
Monthly
Billions of dollars
5500
Monthly
3500
5000
3000
4500
4000
2500
3500
2000
3000
2500
1500
2000
1000
1500
1000
500
500
0
SOMA Treasury Holdings
2024
2022
2020
2018
2016
2014
SOMA Agency MBS Holdings
Billions of dollars
Monthly
3000
Billions of dollars
Monthly
2400
2200
2000
2500
1800
1600
2000
1400
1200
1500
1000
800
1000
600
400
500
200
0
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2024
2022
2020
2018
2016
2014
2012
2010
2024
2022
2020
2018
2016
2014
2012
0
2010
Projections
2012
2010
2024
2022
2020
2018
2016
2014
2012
2010
0
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
“Total Assets and Selected Balance Sheet Items” and the table that follows).2 At
that time, total assets are projected to stand at $2.4 trillion, with about $2.2 trillion
in total SOMA securities holdings. Total assets and SOMA Treasury holdings
rise thereafter, keeping pace with the increases in both Federal Reserve notes in
circulation and Federal Reserve Bank capital. See the box entitled “Implications
of Different Reinvestment Strategies” for a discussion of the implications of
alternative reinvestment strategies for the balance sheet and for effects on
Treasury term premiums.
Federal Reserve earnings remittances. After record remittances to the Treasury
in 2015 (excluding remittances associated with the transfer of Federal Reserve
surplus under the FAST Act) of nearly $100 billion, remittances are projected to
decline to about $84 billion this year (see the solid black lines in the “Income
Projections” exhibit). The step-down in 2016 primarily reflects increased interest
expense on reserves associated with the projected firming in the stance of policy.
Annual remittances continue to decline in subsequent years, reaching a low of
roughly $34 billion in 2019, with no deferred asset being recorded.3 Relative to
the April Tealbook, the projected path of remittances is slightly higher in the
medium term, as reinvestments are now assumed to continue through the third
quarter of 2017, resulting in a larger SOMA portfolio and thus more interest
income. The Federal Reserve’s cumulative remittances from 2009 through 2025
Unrealized gains or losses. The staff estimates that the SOMA portfolio was in a
net unrealized gain position of about $201 billion at the end of May.4
2
The size of the balance sheet is assumed to be normalized when the securities portfolio reverts to
the level consistent with its longer-run trend; this trend is determined largely by currency in circulation 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 deemed necessary to conduct
monetary policy; currently, we assume that level of reserve balances to be $100 billion. However, ongoing
regulatory and structural changes could result in a higher underlying demand for reserve balances. In turn,
a higher steady-state level for reserve balances would, all else equal, imply an earlier normalization of the
size of the balance sheet. For instance, with a $500 billion steady-state level of reserve balances, the
balance sheet would likely normalize at the beginning of 2021.
3
In the event that a Federal Reserve Bank’s earnings fall short of the amount necessary to cover
its operating costs and pay dividends, a deferred asset for earnings remittances due to the U.S. Treasury
would be recorded.
4
The Federal Reserve reports the level in the quarter-end net unrealized gain/loss position of the
SOMA portfolio to the public in the “Federal Reserve Banks Combined Quarterly Financial Reports,”
Page 45 of 54
Projections
total about $1.1 trillion.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Federal Reserve Balance Sheet
End-of-Year Projections -- June Tealbook
(Billions of dollars)
Apr 30, 2016
Total assets
4,477
2017
2019
2021
2023
2025
4,378 3,186 2,418 2,542 2,717
Selected assets
Loans and other credit extensions*
Securities held outright
U.S. Treasury securities
3
0
0
0
0
4,233
4,168 3,011
2,461
2,420 1,601 1,126 1,466 1,801
Agency debt securities
Agency mortgage-backed securities
0
27
1,745
4
2
2,266 2,404 2,587
2
2
2
1,744 1,407 1,138
935
784
Unamortized premiums
184
161
125
99
84
74
Unamortized discounts
-16
-13
-10
-8
-7
-6
52
54
54
54
54
54
Total other assets
Total liabilities
4,437
4,335 3,140 2,368 2,487 2,657
1,402
1,544 1,703 1,834 1,985 2,154
Projections
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
308
343
243
243
243
243
2,719
2,443 1,189
286
255
255
2,342
2,288 1,034
131
100
100
339
150
150
150
150
150
38
5
5
5
5
5
3
0
0
0
0
0
40
42
46
50
55
60
Other deposits
Earnings remittances due to the 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; and net portfolio holdings of Maiden Lane LLC.
**Total capital includes capital paid-in and capital surplus accounts.
Page 46 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Implications of Different Reinvestment Strategies
As shown in figure 1, these alternatives for the timing of the cessation of
reinvestments largely result in “parallel” shifts of the trajectory for the Federal
Reserve’s balance sheet. As shown in figure 2, these different paths for the balance
sheet would have corresponding effects on the paths of the term premium embedded
in long‐term interest rates. For example, the delay in the cessation of reinvestments
under scenario FF 2.0 would result in a larger average level of the balance sheet over
the next few years and a lower path for the term premium. All else equal, that would
allow for somewhat faster normalization of the level of the federal funds rate.
Conversely, the earlier cessation of reinvestments under scenario FF 0.8 would result
in a somewhat higher path for the term premium and a somewhat slower pace of
normalization for the level of the federal funds rate. Finally, under all scenarios,
remittances to the Treasury (not shown) decline until 2019 before rebounding slowly,
but differences across scenarios are minor.
1
The reinvestment end date under FF 0.8 coincides with that assumed in the April Tealbook
baseline. The April Tealbook projected the federal funds rate to be 1.3 percent at this end date.
Page 47 of 54
Projections
The Committee has indicated that it will cease reinvestments when the process for
normalizing the level of the federal funds rate is “well under way.” This box considers
the differences in balance sheet and term premium effects that arise when the
cessation of reinvestments is based on different levels of the federal funds rate. In
particular, the scenarios labeled “FF 0.8”, “FF 1.3”, and “FF 2.0” consider the cases in
which reinvestments end when the federal funds rate reaches 0.8 percent, 1.3
percent, and 2.0 percent, respectively.1 The FF 1.3 scenario corresponds to the staff’s
current baseline assumption. All told, there are generally only small differences across
strategies under the baseline economic outlook; however, the incremental policy
accommodation provided by delaying the end of reinvestments may provide some
insurance in the case of shocks that call for additional easing.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Income Projections
June Tealbook
Interest Income
April Tealbook
Interest Expense
Billions of dollars
Annual
Billions of dollars
140
Annual
160
120
140
100
120
100
80
80
60
60
2024
2022
Annual
140
60
40
40
20
20
0
0
2024
60
2022
80
2020
80
2018
100
2016
100
2014
120
2012
120
Memo: Unrealized Gains/Losses
Billions of dollars
End of year
Page 48 of 54
400
300
200
100
0
−100
−200
2024
2022
2020
2018
−300
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
2014
Billions of dollars
140
2024
2022
2020
2018
2016
2014
Annual
2012
2020
Earnings Remittances to Treasury
Billions of dollars
2012
2018
0
2016
0
2014
20
2012
20
Realized Capital Gains
Projections
40
2024
2022
2020
2018
2016
2014
2012
40
−400
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Going forward, the net unrealized gain or loss position of the portfolio will
depend importantly on the path of longer-term interest rates. Because of the
assumed rise in longer-term interest rates over the next several years, the portfolio
is projected to shift to an unrealized loss position in mid-2017, about two quarters
later than estimated in the April Tealbook. The delayed onset of a net unrealized
loss position reflects a slightly lower path for long-term interest rates. The
portfolio is then expected to record a peak unrealized loss of about $148 billion in
2019, about $92 billion less than what was projected in the April Tealbook.
About $46 billion of that peak unrealized loss is attributable to losses on holdings
of Treasury securities and $102 billion to losses on holdings of agency MBS. The
unrealized loss position then contracts through 2025, as the value of securities
previously acquired under the large-scale asset purchase programs return to par as
they approach maturity and new securities are added to the portfolio at prevailing
market yields.
Term premium effects. As shown in the table “Projections for the 10-Year
Treasury Term Premium Effect,” the Federal Reserve’s elevated stock of longerterm securities is estimated to hold down the term premium embedded in the
10-year Treasury yield by 98 basis points in the current quarter.5 Over the next
couple of years, the estimated term premium effect diminishes at a pace of about
4 basis points per quarter, reflecting in part the gradual projected shrinking of the
SOMA Characteristics. Regarding the size of the portfolio, approximately
$216 billion in SOMA Treasury holdings has already matured or will mature this
year, and a total of $1.4 trillion will mature between 2016 and 2020 (see the top
panel of the exhibit “Projections for the Characteristics of SOMA Holdings”).6
available on the Board’s website at
http://www.federalreserve.gov/monetarypolicy/bst_fedfinancials.htm#quarterly.
5
The projection for the contemporaneous term premium effect is about 5 basis points less negative
than what was reported in the April Tealbook as a result of the staff’s refinement of assumptions in the
underlying estimated model.
6
While following its current reinvestment policy, the Desk replaces maturing Treasury security
holdings with newly issued debt at Treasury auctions. Consistent with longstanding practice, these
rollovers are carried out at Treasury auctions by placing bids for the SOMA in a par amount equal to the
value of holdings maturing on the issue date of a newly issued security. Moreover, across the various
maturities, these bids are placed proportionately to the issue amounts of the new securities. The Desk’s
Page 49 of 54
Projections
portfolio.
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Projections for the 10-Year Treasury Term Premium Effect
(Basis Points)
Date
June
Tealbook
April
Tealbook
Quarterly Averages
-98
-94
-89
-103
-99
-95
2017:Q4
2018:Q4
2019:Q4
2020:Q4
2021:Q4
2022:Q4
2023:Q4
2024:Q4
2025:Q4
-73
-58
-47
-38
-31
-25
-21
-16
-11
-78
-65
-55
-46
-39
-33
-27
-21
-15
Projections
2016:Q2
Q3
Q4
Page 50 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
The amounts of Treasury securities maturing each month vary considerably, while
projected MBS paydowns are much less variable. However, realized MBS
paydowns will reflect the evolution of interest rates and other factors and could
thus be significantly more volatile than projected.
The weighted-average duration of the SOMA Treasury portfolio is currently about
6½ years (see the bottom panel of the exhibit). The weighted-average duration is
projected to decline through 2017, reflecting the aging of the portfolio, and
subsequently to rise until 2022, when the size of the balance sheet is normalized.7
After reaching its peak, duration is projected to resume its decline as the Desk
starts purchasing Treasury securities to keep pace with the increase in currency.
In particular, the duration contour in this latter portion of the projection is based
on the key assumption that the Federal Reserve will buy only Treasury bills until
those holdings are equal to approximately 30 percent of the Treasury portfolio,
similar to the pre-crisis composition of the portfolio (currently there are no
Treasury bill holdings). Thereafter, purchases of Treasury securities are assumed
Projections
to be spread across the maturity spectrum.8
bids at Treasury auctions are placed as noncompetitive tenders and are treated as add-ons to announced
auction sizes.
7
The duration of the SOMA Treasury portfolio initially declines once reinvestments cease, as
Treasury securities in the portfolio approach maturity. Once the pace of roll-offs accelerates starting in
2018 and longer tenor securities account for a larger share in the remaining portfolio, duration increases
until the balance sheet is normalized.
8
We assume zero purchases of agency MBS after reinvestments cease.
Page 51 of 54
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
Projections for the Characteristics of SOMA Holdings
Projected Receipts of Principal on SOMA Securities
Billions of Dollars
June Tealbook
100
Projected MBS Paydowns
Treasury Maturities
80
60
40
20
0
2017
2018
2019
2020
SOMA Weighted−Average Treasury Duration
Monthly
Years
10
Projections
June Tealbook
9
8
7
6
5
4
3
2
2008
2010
2012
2014
2016
Page 52 of 54
2018
2020
2022
2024
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
Abbreviations
ABS
asset-backed securities
BEA
Bureau of Economic Analysis, Department of Commerce
BHC
bank holding company
CDS
credit default swaps
CFTC
Commodity Futures Trading Commission
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
DSGE
dynamic stochastic general equilibrium
ECB
European Central Bank
EDO
Estimated, dynamic, optimization-based model
ELB
effective lower bound
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
GSIBs
globally systemically important banking organizations
HQLA
high-quality liquid assets
ISM
Institute for Supply Management
LIBOR
London interbank offered rate
MBS
mortgage-backed securities
MMFs
money market funds
Page 53 of 54
June 9, 2016
Authorized for Public Release
Class I FOMC - Restricted Controlled (FR)
June 9, 2016
NBER
National Bureau of Economic Research
NI
nominal income
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
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
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 (2016, June 14). Greenbook/Tealbook. Greenbooks, Federal Reserve. https://whenthefedspeaks.com/doc/greenbook_20160615_part2
BibTeX
@misc{wtfs_greenbook_20160615_part2,
author = {Federal Reserve},
title = {Greenbook/Tealbook},
year = {2016},
month = {Jun},
howpublished = {Greenbooks, Federal Reserve},
url = {https://whenthefedspeaks.com/doc/greenbook_20160615_part2},
note = {Retrieved via When the Fed Speaks corpus}
}