Transcripts of the monetary policymaking body of the Federal Reserve from 2002–2008.

Thank you, Mr. Chairman. I agree with the Chairman’s general assessment of the risks to growth, and I think that currently we are well behind the curve and that we need to act much more aggressively in terms of monetary policy. However, I want to say that, even though I take the view that we need to be much more aggressive, I do not think that today is the day to do it. There are really three reasons that I am not in favor of doing a move today. The first is that it is very important to keep moving in the direction that I have hoped we are moving in, which is to be much more systematic in terms of thinking about monetary policy and actually communicating that to the markets and the public. Moving today would have the potential to indicate that we are being much more discretionary than I think would be appropriate, and that could be very problematic. I also would be concerned that it might give an impression that we would be overreacting to one piece of information—the employment report— and I think that would also be dangerous. There is serious potential for this to be viewed by the markets as our panicking, and that would, again, be very harmful in the current environment.

In terms of where I think we should be heading with monetary policy, I definitely think that given the information we have today, though things clearly may change in the next couple of weeks, we would need to move at least 50 basis points at the next meeting. Actually, I don’t want to rule out the possibility of doing even more at the next meeting or talking about having a contingent move, for which we’d prepare the markets, so that it would be more systematic in terms of a possible intermeeting move afterwards because there is important information— another employment report, retail sales, and so forth—that will come out shortly after the next FOMC meeting.

As I talked about at the last meeting—and I will go into this in more detail in a speech on Friday—I think it is very important to be ahead of the curve and react aggressively to financial market disruptions. There is an issue of very strong nonlinearity that makes the normal response, which we think about in terms of doing optimal policy—the standard linear quadratic framework we often work in—not the correct one. In a situation such as the one we are dealing with now, with a lot of potential for nonlinearity, it is extremely important to get ahead of the curve. This argues for quite aggressive action at this point—as I said, not particularly today but in the near future.

One concern that people have raised is the potential upside risks to inflation. I am less worried about that than some other members of the FOMC for the following reasons. Very importantly, inflation expectations seem very solidly grounded. We have had no indication of any deterioration in terms of inflation expectations, despite our previous easing moves and the very high increases in energy prices. Second, when I think about what drives inflation and what are the dynamics of the inflation process, what is important are expectations not only with respect to inflation but also with respect to the future path of output gaps. In particular, I do not see at this juncture that people are worried that we are going to allow the economy to get overheated. In fact, it is the opposite right now. We are more worried about the downside risks, where there will be increased economic slack in the economy, and of course, that is consistent with the forecast coming from the Board staff. So when I think about the inflation process, I think in terms of underlying inflation, which is inflation not over the next year but over the longer run, which is appropriate for monetary policy and when we can have an effect. I do not see that the upside risk is huge there; in fact, this is very important in terms of allowing us to be aggressive in this situation of financial disruption.

One issue that I think is very important, which other participants here have raised, is that there is a fear that we might overshoot if we ease aggressively. In fact, two things could indicate that we may have gone too far. One is that we frequently see financial disruptions dissipate very quickly. That is what I hope happens, so it is not something that I would be depressed about. I would be very pleased about it because, if things start going the right way, just as you can get an adverse or a negative feedback loop when these financial disruptions occur, you can actually get a virtuous feedback loop, and that can happen fairly quickly. If that occurs, we should be very ready to take away some of the insurance that we have provided by aggressive easing. The second is, of course, inflation expectations. If aggressive easing led to the unhinging of inflation expectations, that would be a terrible thing. The most important thing that I think we do is to ground inflation expectations; it is a key part of our success and of central banks throughout the world in recent years. So I think we have to monitor very carefully what is happening to inflation expectations. If our easing looks as though it’s causing a problem in terms of inflation expectations, then we have to act accordingly.

I would argue that the way we have to think about policy is that we need to think about it being less inertial but maybe more systematic. When we talk about risk management, I think in the past there was some element of thinking that risk management was just discretion. We have to think about risk management in terms of being more systematic and to think about how we might react to changes in conditions so that we would not be inertial. By so doing and indicating to the market that we were thinking that way, we could alleviate some of these fears.

So the bottom line is that I think that we have to be ahead of the curve. I am actually very sympathetic to President Evans’s view that we are going to have to move more than 50 basis points, certainly, over a longer period than just the next meeting. I also think that we have to think about that hard and about doing this in a systematic way and prepare the markets to understand why we are reacting the way we are, so that we are not seen as being discretionary but as operating very much consistently with our dual mandate. Thank you.

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