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

Thank you all. Our pause at the last meeting was a benefit-cost calculation. The benefit of pausing was to give ourselves more time to assess the state of the economy and the effects of our previous interest rate actions. The potential cost of pausing was that we would lose some credibility, that inflation might move adversely, and we would get behind the curve in terms of that very important goal. The intermeeting developments have shown a somewhat weaker economy in real terms than we had expected and, I think I can safely say, no reduction in uncertainty. Although inflation remains above where we would like it to be, I think we can’t say that the inflation situation has deteriorated during the intermeeting period. Therefore, it’s reasonable for us to continue to pause to get more information and to evaluate the state of the economy. We can, of course, maintain our policy stance at this level for a while if we deem it sufficiently restrictive, or we can move it as new information comes in. At this point we will have a very high degree of flexibility in future actions.

I’d like to make a few other comments about some of the conversation around the table. I’m bemused by the de facto inflation targeters that we have become here [laughter] with the 1.5 percent goal. Let me just make a couple of comments on that. First, flexible inflation targeting does respond to things other than the target itself. In particular, we saw a surprising increase in inflation earlier this year, which took us above or further above our implicit target. The optimal response to that is to return to target, but only slowly and with the amount of time to take to get back to the target depending positively on the initial deviation. Second, the speed at which you return to the target ought to depend on the state of the real economy. The extent to which we’re concerned about potential recessionary effects should make us be a little more cautious and make us move a little more slowly. I would add that, although a number of us, including myself, have mentioned this 1 to 2 percent zone, it has also been noted around this table that it may not, in fact, be the right zone. If we do determine that we want to announce a target and it is 1.5 percent, we should lay out a plan for getting to that level over a period of time and not immediately. But we might choose as an alternative possibility, for example, 1½ to 2 percent, in which case we would be somewhat closer to that target in a shorter time.

Let me also say a word about credibility, which is a little subtle, and I am probably going to mess it up. I think there are two definitions of credibility. The first is the one we are all familiar with, which Paul Volcker gave to the Federal Reserve and for which he is one of my personal heroes. That is the kind of credibility that involves doing what you have to do to get inflation where it needs to be. Let me be completely clear that, if inflation conditions begin to deteriorate and our credibility comes under serious threat, I certainly will support doing whatever it is we have to do to maintain that credibility. There is another kind of credibility, however, which I think was brought to the Federal Reserve by Alan Greenspan, which is credibility and confidence in our ability to analyze and forecast the economy sufficiently well that we can achieve our objectives in a way that does not induce undue harm to the economy. I think that the Greenbook forecast, if it comes true, would in fact be a quite positive accomplishment for this Committee because it would have us bringing inflation down to a reasonable level in a moderate way and avoiding a recession. That outcome would actually be very good. In fact, our task is going to be more difficult than that, as I’ve indicated. Part of our task going forward is not just to show that we’re committed to fighting inflation, which we are, but also that we are very deftly evaluating the state of the economy and making good judgments about what needs to be done.

Let me turn to the statement. I would like to discuss certain elements of it. I’d like to propose that we use alternative B, and let me note a few points. First, I’m sure that everyone noted that in section 2, in the phrase “reflecting a cooling of the housing market,” we are eliminating the word “gradual” and doing so indicates a somewhat stronger degree of cooling. Second, in response to President Poole, I think this is not intended to be anything other than a pure description of the economy and our sense of what is happening in the economy. It actually does have a bit of a forward-looking aspect as well, Vice Chairman Geithner; and it is factual in that, if you look at the forecast, the slowdown in construction accounts for almost all the decline from potential. So I don’t think it’s in any way focusing our policy decision on the housing sector.

In section 3, the addition of “reduced impetus from energy prices” is useful, I think. We have been criticized for, among other things, being too sanguine about the disinflation and arguing implicitly that a modest amount of slowing in the economy would be sufficient to achieve disinflation. We do not actually believe that, and one of the reasons we forecasted a decline in inflation is that we expected to see a reduced impetus from energy prices going forward. We now have actually seen the fall in energy prices, and so we don’t even have to appeal, for example, to the futures market. We can simply state that we have seen this decline in energy prices, and I think that makes our story a little more complete and makes it look more understandable to the public about why we think that inflation should decline slowly over time.

I propose to keep the assessment of risk as it stands. It’s very clear that our bias is toward resisting inflation. I’m not even sure that B+ would actually be a more hawkish phrase because it admits the possibility of easing, whereas this statement actually suggests that it’s unlikely that our next move will be anything other than upward. I am torn about the phrase “on balance.” The intention of the phrase was to note the slightly better readings but to emphasize that the overriding view is that inflation readings are still elevated. However, several people have suggested taking it out, and I am willing to do so. Are there others who have a strong view one way or the other?

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