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Brainard, Lael on 2017 May 30 at 13:00

With the federal funds rate projected to be in the range that is midway to the Committee's projection of the long-run value of the federal funds rate later this year, I would consider it reasonable to assess that this threshold will have been attained before too long.

Consideration that normalization of the federal funds rate is well underway was the criterion the Committee adopted in its December 2015 decision to continue to reinvest principal payments. In my view, that "well under way" standard has served an important purpose. With asymmetry in the scope for conventional monetary policy to respond to shocks, maintaining reinvestments provided an important benefit by enabling the federal funds rate to rise more quickly than would have been possible with a shrinking balance sheet and sooner reach a level that allows for reductions if conditions deteriorate. This approach has ensured that our most proven tool, the federal funds rate, will have reached a level at which it can be cut if needed to buffer adverse shocks, thus helping to guard against the asymmetric risks associated with the effective lower bound. With the federal funds rate projected to be in the range that is midway to the Committee's projection of the long-run value of the federal funds rate later this year, I would consider it reasonable to assess that this threshold will have been attained before too long. ... I favor an approach that would gradually and predictably increase the maximum amount of securities the market will be required to absorb each month, while avoiding spikes. Thus, in an abundance of caution, I prefer to cap monthly redemptions at a pace that gradually increases over a fixed period. In addition, I would be inclined to follow a similar approach in managing the reduction of the holdings of Treasury securities and mortgage-backed securities (MBS), calibrated according to their particular characteristics. ... Over time, the gradual reduction in our balance sheet should result in a gradual decline in reserves to a longer-run level that is well below today's level but likely somewhat higher than in the pre-crisis regime. It is difficult to know in advance with any precision how low reserves can be allowed to drop. That minimum level will depend on the structural demand for reserves and the short-term variability in the demand for and supply of reserves. During the process of balance sheet normalization, I favor an approach of monitoring money markets carefully to gauge the appropriate longer-run level of reserves consistent with efficient and effective policy implementation. Finally, while subordination of the balance sheet to the federal funds rate should be our baseline policy, in my view, there may be circumstances when we may need to rely on the balance sheet more actively. During the period when the balance sheet is running down, if the economy encounters significant adverse shocks, it may be appropriate to commence the reinvestment of principal payments again in order to preserve conventional policy space.     Brainard, Lael

New York Association for Business Economics

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