Read this now: Fed governor Lael Brainard’s speech on the “new normal”/asymmetric risk

September 12th, 2016 at 2:50 pm

Don’t have time to do justice to this speech given today by Fed governor Lael Brainard, but it’s just a beautiful merging of common sense and very smart, contemporary macro and monetary policy.

I’m try to give more commentary later, but for now, I’ll pull some key quotes (my bold in every case):

With the Phillips curve appearing to be a less reliable guidepost than it has been in the past, the anchoring role of inflation expectations remains critically important. On expected similar to realized inflation, recent developments suggest some reasons to be concerned more about undershooting than overshooting.

…we cannot rule out that the sustained period of undershooting the inflation target along with global disinflationary pressures are weighing on inflation expectations.

The apparent flatness of the Phillips curve together with evidence that inflation expectations may have softened on the downside and the persistent undershooting of inflation relative to our target should be important considerations in our policy deliberations. In particular, to the extent that the effect on inflation of further gradual tightening in labor market conditions is likely to be moderate and gradual, the case to tighten policy preemptively is less compelling.

This uncertainty about the true state of the economy suggests we should be open to the possibility of material further progress in the labor market. 

We cannot rule out that estimates of the natural unemployment rate may move even lower.

Of particular significance, the prime-age labor force participation rate, despite improvement this year, remains about 1-1/2 percentage points below its pre-crisis level, suggesting room for further gains.

…in the presence of uncertainty and the absence of accelerating inflationary pressures, it would be unwise for policy to foreclose on the possibility of making further gains in the labor market.

The experiences of these economies [Europe, Japan; JB] highlight the risk of becoming trapped in a low-growth, low-inflation, low-inflation-expectations environment and suggest that policy should be oriented toward minimizing the risk of the U.S. economy slipping into such a situation.

The fact that many advanced economies are suffering from deficient demand and have policy rates at or near the zero bound and that the U.S. dollar is a favored safe-haven asset may imply that adverse foreign demand shocks have a particularly strong effect on the value of the dollar, effectively transmitting the weakness to the U.S. economy.

From a risk-management perspective, therefore, the asymmetry in the conventional policy toolkit would lead me to expect policy to be tilted somewhat in favor of guarding against downside risks relative to preemptively raising rates to guard against upside risks.

In today’s new normal, the costs to the economy of greater-than-expected strength in demand are likely to be lower than the costs of significant unexpected weakness.

For the time being, the most effective way to address these concerns is to ensure that our policy actions align with our commitment to achieving the existing inflation target, which the Committee has recently clarified is symmetric around 2 percent--and not a ceiling-along with maximum employment.

I really love the clarity, foresight, global perspective and balanced risk assessment.

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4 comments in reply to "Read this now: Fed governor Lael Brainard’s speech on the “new normal”/asymmetric risk"

  1. Nick Batzdorf says:

    Coolio! But is he a lone voice? Everything one reads gives the impression that even Janet Yellen is considerably more hawkish.

    From the outside it’s hard to get a feel for what’s really going on in these people’s minds.

  2. Smith says:

    Very cool. However…
    1) 2% is too low as an average, I have data to back up this claim, unemployment below 5% and a years average inflation at or below 2%? 1998 and 1965 and 1956 Please try and defend 2% with data.
    2) One would expect oil to rise as the global recovery begins and speculators jump in, and OPEC cuts production. This will in no way justify slowing the economy (unless you want stagflation).
    3) We had normal inflation in the 2000s and no wage growth. Why doesn’t that mean wage growth would produce significantly higher inflation, near 4%?
    4) Without any controls on prices you could end up with full employment, 4% inflation and still no real wage growth.

    Again, it seems no one is questioning the validity of controlling inflation with unemployment, except me.
    Control prices by controlling prices, not making workers pay.