Regional President Speech

Monetary Policy Strategies & Accountability Sixth Annual Rocky Mountain Economic Summit Hosted by the Global Interdependence Center (GIC), Jon M. Huntsman Business School at Utah State University and the Bronze Buffalo Foundation Jackson Hole, Wyoming July 11, 2014 Charles L. Evans President and CEO Federal Reserve Bank of Chicago The views I express here are my own and do not necessarily reflect the views of the Federal Reserve Bank of Chicago, my colleagues on the Federal Open Market Committee (FOMC) or within the Federal Reserve System. 00 Three Big Events in Fed History  The Great Depression (1929-1938) – “Inept monetary policy” failed to adequately combat credit contraction, deflation, and depression  The Great Inflation (1965-1980) – Monetary policy failed to recognize structural changes and expectational dynamics that led to double-digit inflation  The Treasury Accord (1951) – An example highlighting the importance of central bank independence 11 Long-Run Strategy for Monetary Policy (January 2012, reaffirmed thereafter every January)  = 2% PCE inflation ∗ 𝝅  ~ 5.2% – 5.5% time-varying 𝒏 – Central tendency of long-run sustainable level from the 𝒕 𝒖 Summary of Economic Projections (SEP)  Balanced approach to reducing deviations of inflation and employment from long-run objectives 22 Persistently Low Inflation and Wage Growth PCE Inflation (%) QE1 QE2 MEP QE3 3 Total PCE (36-mo. Average) 2 1 Core PCE (12-mo. Change) 0 2000 '02 '04 '06 '08 '10 '12 '14 '16 Wage and Compensation Growth (percent change, year-over-year) 6 Average Hourly Earnings 3.5% = 1.5% productivity growth + Employment Cost Index 2% inflation 3 0 2000 '02 '04 '06 '08 '10 '12 '14 '16 Source: Inflation forecasts are from the June 18, 2014 FOMC Summary of Economic Projections 33 Inflation Expectations Expected Future Three-Year Ahead Inflation (percent) 2.00 Total PCE Expected Inflation for 2014-2017 (as of 2014) Core PCE 1.50 Expected Inflation for 2021-2024 (as of 2021) 1.00 2014 2015 2016 2017 2018 2019 2020 2021 Source: FRB-Chicago Staff Models 44 Inflation is Low Globally Consumer Inflation (year-over-year percent change, deviation from target) 2 1 Latest 0 Japan prior to consumption tax increase -1 2008-2013 avg. -2 2000-2007 avg. -3 U.K. U.S. Eurozone Switzerland Sweden Norway Japan Consumer inflation in the U.S. is as measured by the total price index for Personal Consumption Expenditures; in other countries, it is measured by the Consumer Price Index. Latest data are year-over-year changes in the most recently 55 published monthly price index. Bull’s-Eye Accountability for Fed’s Dual Mandate Loss Function (percent) ∗ 𝟐 ∗ 𝟐 𝑳 = 𝝅 − 𝝅 + 𝟎.𝟐𝟐 𝒚 − 𝒚 𝟐 𝒏 𝟐 Inflation = 5.6% 𝑳 = 𝝅 − 𝟐 + 𝒖 − 𝒖 𝝅 = 9% 𝒖 2015 2016 2014 ∗ September 2011 2012 𝝅 Current 2013 Unemployment 2014 – 2016 values are midpoints of FOMC participants’ Summary of Economic Projections as of June 18, 2014. 66 𝒏 The current dot shows the three-month average of the unem𝒖ployment rate and year-over-year change in the three-month average of core PCE prices. Bull’s-Eye Accountability for Fed’s Dual Mandate Loss Function (percent) 𝟐 𝒏 𝟐 𝑳 = 𝝅 − 𝟐 + 𝒖 − 𝒖 Inflation = 3.2% 𝝅 = 6.5% 2015 𝒖 2012 ∗ 2014 𝝅 2016 2013 Current Unemployment 2014 – 2016 values are midpoints of FOMC participants’ Summary of Economic Projections as of June 18, 2014. 77 𝒏 The current dot shows the three-month average of the un𝒖employment rate and year-over-year change in the three-month average of core PCE prices. Bull’s-Eye Accountability for Fed’s Dual Mandate Loss Function (percent) 𝟐 𝒏 𝟐 𝑳 = 𝝅 − 𝟐 + 𝒖 − 𝒖 𝟐 𝒏 𝟐 Inflation 𝑳 = 𝟐 𝝅 − 𝟐 + 𝒖 − 𝒖 3.2% = 3.0% 𝝅 = 6.8% 2015 𝒖 2012 ∗ 2014 𝝅 2016 2013 Current Unemployment 2014 – 2016 values are midpoints of FOMC participants’ Summary of Economic Projections as of June 18, 2014. 88 𝒏 The current dot shows the three-month average of the un𝒖employment rate and year-over-year change in the three-month average of core PCE prices. Why Has Achieving Dual Mandate Been So Hard?  Deleveraging in the aftermath of the financial crisis  Global risks  Unusually restrictive fiscal policy  Monetary policy constrained by zero lower bound 99 Policy Rate Constrained by Zero Lower Bound Fed Funds Rate (percent) 8 6 4 History 2 Q1-2014 0 Taylor Rule (1999) based on CBO output gap -2 -4 -6 1999 '01 '03 '05 '07 '09 '11 '13 In the period prior to the explicit inflation target set by the FOMC, the Taylor Rule is constructed using long-run inflation 111000 forecasts from the Survey of Professional Forecasters, or when available, from the Summary of Economic Projections. After 2012, the Taylor Rule is constructed using the FOMC’s 2 percent long-run inflation target. Policy Tools at the Zero Lower Bound  Constrained optimal policy approach (Taylor 1979)  Two ways to approximate optimal policy at the ZLB – LSAPs – Forward guidance and inertial policy rule 1111 FG and FOMC “Appropriate” Policy Rates 5 4 Taylor '93: 𝒏 𝟐+𝛑𝒕 +𝟎.𝟐 𝝅𝒕−𝟐 +(𝒖𝒕−𝒖𝒕) 3 Inertial Taylor '99: 𝒏 2𝟎.𝟖 𝑰𝒕−𝟏 +𝟎.𝟐 [𝟐+𝝅𝒕 +𝟎.𝟐 𝝅𝒕 −𝟐 +𝟐 𝒖𝒕 −𝒖𝒕 ] Market Expectations 1 0 2014 2015 2016 Long-Run Source: Interest rate forecasts are from the June 18, 2014 FOMC Summary of Economic Projections. Market expectations are from OIS futures as of July 7, 2014 1122 Interest Rates are Low Globally 10-year Government Bond Yield (percent) 8 U.S. 6 U.K. 4 Germany 2 Japan 0 2000 '01 '03 '05 '07 '09 '11 '13 1133

Charles L. Evans (2014, July 10). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_20140711_charles_l_evans

@misc{wtfs_regional_speeche_20140711_charles_l_evans,
  author = {Charles L. Evans},
  title = {Regional President Speech},
  year = {2014},
  month = {Jul},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_20140711_charles_l_evans},
  note = {Retrieved via When the Fed Speaks corpus}
}