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27–427 PDF 2017

S. HRG. 115–108 

FEDERAL RESERVE’S SECOND MONETARY POLICY 

REPORT FOR 2017 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED FIFTEENTH CONGRESS 

FIRST SESSION 

ON 

OVERSIGHT ON THE MONETARY POLICY REPORT TO CONGRESS PURSUANT TO THE FULL EMPLOYMENT AND BALANCED GROWTH ACT OF 1978 

JULY 13, 2017 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.fdsys.gov/ 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

MIKE CRAPO, Idaho, Chairman 

RICHARD C. SHELBY, Alabama 

BOB CORKER, Tennessee 

PATRICK J. TOOMEY, Pennsylvania 

DEAN HELLER, Nevada 

TIM SCOTT, South Carolina 

BEN SASSE, Nebraska 

TOM COTTON, Arkansas 

MIKE ROUNDS, South Dakota 

DAVID PERDUE, Georgia 

THOM TILLIS, North Carolina 

JOHN KENNEDY, Louisiana 

SHERROD BROWN, Ohio 

JACK REED, Rhode Island 

ROBERT MENENDEZ, New Jersey 

JON TESTER, Montana 

MARK R. WARNER, Virginia 

ELIZABETH WARREN, Massachusetts 

HEIDI HEITKAMP, North Dakota 

JOE DONNELLY, Indiana 

BRIAN SCHATZ, Hawaii 

CHRIS VAN HOLLEN, Maryland 

CATHERINE CORTEZ MASTO, Nevada 

GREGG RICHARD, Staff Director 

MARK POWDEN, Democratic Staff Director 

ELAD ROISMAN, Chief Counsel 

JOE CARAPIET, Senior Counsel 

GRAHAM STEELE, Democratic Chief Counsel 

LAURA SWANSON, Democratic Deputy Staff Director 

COREY FRAYER, Democratic Professional Staff Member 

DAWN RATLIFF, Chief Clerk 

CAMERON RICKER, Hearing Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 

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C O N T E N T S 

THURSDAY, JULY 13, 2017 

Page 

Opening statement of Chairman Crapo ................................................................. 1 

Opening statements, comments, or prepared statements of: 

Senator Brown .................................................................................................. 2 

WITNESS 

Janet L. Yellen, Chair, Board of Governors of the Federal Reserve System 

Prepared statement .......................................................................................... 35 

Responses to written questions of: 

Senator Brown ........................................................................................... 38 

Senator Sasse ............................................................................................ 39 

Senator Rounds ......................................................................................... 50 

Senator Tillis ............................................................................................. 52 

Senator Heitkamp ..................................................................................... 53 

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

Monetary Policy Report to the Congress dated July 7, 2017 ............................... 60 

Letter from Keith A. Norieka, Acting Comptroller of the Currency ................... 122 

Letter from Richard Cordray, Director, Consumer Financial Protection 

Bureau ................................................................................................................... 124 

Memorandum to the CFPB Director from the Arbitration Agreements Rulemaking Team ........................................................................................................ 127 

(III)

(1) 

FEDERAL RESERVE’S SECOND MONETARY 

POLICY REPORT FOR 2017 

THURSDAY, JULY 13, 2017 

U.S. SENATE, 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, 

Washington, DC. 

The Committee met, at 9:34 a.m., in room SD–538, Dirksen Senate Office Building, Hon. Mike Crapo, Chairman of the Committee, 

presiding. 

OPENING STATEMENT OF CHAIRMAN MIKE CRAPO 

Chairman CRAPO. Good morning, and the Committee will come 

to order. 

Today we will receive testimony from Federal Reserve Chair 

Janet Yellen regarding the Fed’s semiannual report to Congress on 

monetary policy and the state of the economy. Welcome, Chair 

Yellen. 

Promoting economic growth remains a top priority for this Committee and for this Congress. 

I have been encouraged to see Federal agencies and stakeholders 

carefully and thoroughly evaluating current laws and regulations. 

Since the last Humphrey–Hawkins hearing in February, there 

have been numerous developments that will impact economic 

growth legislation. Senator Brown and I have solicited the public 

for economic growth proposals, and more than 100 submissions 

from individuals and stakeholders have come in. They are listed on 

the Committee’s website for those who may be interested, and we 

are working together now to put together legislation dealing with 

it. 

The Committee has held numerous hearings focused on economic 

growth with financial companies and regulators; Federal financial 

regulators issued their second EGRPRA report; and the Treasury 

Department issued its first report on Core Principles of Financial 

Regulation. 

In addition, Members on both sides of the aisle have expressed 

interest in finding ways to help our economy improve. Support for 

bipartisan legislation promoting economic growth continues to 

build. 

Particular interest has been focused on finding bipartisan solutions to tailor regulations, change the SIFI threshold, exempt certain firms from stress testing, fix the Volcker Rule, and simplify 

small bank capital rules. These are just a few of many issues 

raised to the Committee in recent months. 

2 

Imposing enhanced standards designed for the most complex systemic firms on institutions that are not systemic has real-world implications. I regularly hear from Idaho business men and women 

who are concerned about access to business loans that would create 

jobs and promote a healthy economy. The $50 billion SIFI threshold, particularly, is an area we should 

address. There are different ways enhanced standards could be applied, and all too many have questioned whether the $50 billion 

threshold is appropriate. 

Chair Yellen, Federal Reserve Governor Powell, Acting Comptroller Noreika, former Federal Reserve Governor Tarullo, and 

former Comptroller Curry have all expressed support for changing 

the $50 billion threshold. 

In addition to the $50 billion threshold, Federal Reserve Governor Powell recently shared specific areas where the Fed believes 

some laws and regulations can be changed to alleviate burden, including the Volcker Rule, stress tests, and resolution plans, among 

others. I look forward to working with the Fed on these issues and 

welcome any additional color that you, Chair Yellen, can provide on 

areas where the Fed and Congress may act together to further reduce burden. 

With respect to housing, reforming the housing finance system is 

one of my key priorities this Congress. I have repeatedly stated 

that the status quo is not a viable option. The current system is 

not in the best interest of consumers, taxpayers, investors, lenders, 

or the broader economy. 

I was encouraged that Federal Reserve Governor Powell gave a 

speech last week in which he said that the status quo it 

unsustainable. 

He also noted that ‘‘[a]s memories of the crisis fade, the next few 

years may present our last best chance to finish these critical reforms.’’ 

With respect to monetary policy, the Fed has now raised interest 

rates four times since 2008. Overall, the Fed maintains an accommodative monetary policy with a balance sheet that still stands at 

$4.5 trillion in assets. 

Last month, the Federal Open Market Committee issued an addendum to its Policy Normalization Principles and Plans detailing 

how the Fed will gradually reduce its assets. I welcome more comments from Chair Yellen about the state of the economy and the 

path of monetary policy. 

The Committee continues to work to find bipartisan fixes to address many of the issues outlined here today, and I look forward 

to working with Chair Yellen, the Federal Reserve, and the Members of this Committee. 

Senator Brown. 

STATEMENT OF SENATOR SHERROD BROWN 

Senator BROWN. Thank you, Mr. Chairman, for holding this 

hearing. Chair Yellen, welcome back. It is wonderful to have you 

here and to see you again. Thank you, and thank you so much for 

your service. 

Since your last appearance before this Committee, the Fed has 

increased the Federal funds rate twice, employers continue to creVerDate Nov 24 2008 12:26 Dec 15, 2017 Jkt 046629 PO 00000 Frm 00006 Fmt 6633 Sfmt 6633 L:\HEARINGS 2017\07-13 ZDISTILLER\71317.TXT JASON
3 

ate jobs—although at a slightly slower pace than last year—and 

wages have increased modestly. 

The Fed continues to lay out its plans to sell off the securities 

that it purchased during the crisis. The biggest banks are making 

record profits. Important to remember that. The biggest banks are 

making record profits and just passed the Fed’s 2017 stress tests. 

At the same time, too many Americans continue to struggle to 

make ends meet. They worry their children will not have the economic security that they once had. Life expectancy in many parts 

of the country is falling—something more or less unprecedented in 

recent history—and that tells us something about our economy. 

So I am troubled by what I am hearing from the Administration, 

from some Republicans, and from some in the banking industry. 

Even though a fifth of homeowners with a mortgage are still seriously underwater in cities across Ohio—you and my colleagues 

have heard me say on this Committee that the Zip Code my wife 

and I live in in the city of Cleveland, Zip Code 44105, had 10 years 

ago more foreclosures the first half of that year than any Zip Code 

in the United States of America. I see the difficulty that people in 

my neighborhood and my Zip Code have in rebuilding their lives. 

Even though the wealth gap between white and black families has 

widened, the Administration seems to want to let Wall Street gamble with the financial futures of working families once again. 

Gutting protections for working Americans is back in style in 

parts of Washington—from the Treasury Department’s report, to 

the Financial CHOICE Act, to the House’s financial appropriations 

bill. We face a slate of nominees for watchdog politicians who are, 

with great apology to President Lincoln, of Wall Street, by Wall 

Street, and for Wall Street. 

Ten years ago, Chairman Bernanke sat in the seat that you occupy. After describing the economic conditions in the housing and 

business sectors, he told our Committee—he spoke about concerns 

about subprime mortgages, global economic trends, and consumption and labor data. But he concluded—this was 10 years ago— 

‘‘Overall, the U.S. economy appears likely to expand at a moderate 

pace over the second half of 2007, with growth then strengthening 

a bit in 2008 . . . ’’. 

We must not forget what actually happened next: a devastating 

financial crisis. Working families in Ohio and Nevada and Maryland and Arkansas and all over, working families across this country cannot forget that. They are still digging out. Nor can we forget 

it, collective amnesia on this panel aside. 

I mention this not as a criticism of Chairman Bernanke. He had 

plenty of company in missing the signs of an impending crisis and 

an impending collapse. But when it happened, he took aggressive 

action, all of you did, to confront that crisis. He learned the lessons 

that came at such a high cost. 

After the crisis, we put rules in place that strengthened the capital positions of banks, that provided more stable liquidity, and 

that improved protections for consumers and for taxpayers. 

Lobbyists are using the success of these reforms as proof that 

they should now be gutted. They are arguing that the results of the 

Fed’s stress tests prove that we can now relax the rules. Having 

passed the test once, they want to make the test easier. 

4 

I am sure every college student you taught in your long, distinguished academic career, Madam Chair, I am sure every college 

student you taught who struggled in class would have wanted the 

same thing. But they, unlike our Nation’s biggest banks, would 

have been too embarrassed to ask their professor. 

The financial crisis was caused in part by watchdogs who were 

busy focusing on bank profits instead of ensuring that banks were 

treating their consumers fairly and had enough capital to weather 

a downturn. 

Everyone on this dais can agree that there are parts of Wall 

Street Reform that could be improved. Of course there are. But our 

focus should be on growing a stronger economy for everyone, in 

every part of the country—from Idaho to Ohio and beyond—and 

particularly in communities too often forgotten in this town. 

That means protecting consumers. It means improving the economic security of communities of color. It means strengthening the 

working- and middle-class families who felt the devastation the 

most, the devastation of 2008’s financial crisis. 

It means lowering the cost of health care. It means investing in 

infrastructure. It means expanding educational opportunities and 

job training. That is how you spur long-term economic growth that 

lifts up all Americans. 

Instead, weakening safeguards to boost bank profits and crossing 

our fingers that Wall Street will invest some of those profits in the 

real economy—we hope, we hope, we hope—instead just passing it 

along to their shareholders will not prevent another crisis. It will 

only hasten the next one. 

Madam Chair, I look forward to hearing your answers to our 

questions. Thank you. 

Chairman CRAPO. Thank you, Senator Brown. 

Chair Yellen, again, welcome here. We appreciate you being here 

with us today. My understanding is that because today’s testimony 

is the same as the testimony you gave yesterday at the House, you 

have requested to waive the reading of your testimony. Senator 

Brown and I have conferred, and we agree with that, and so we 

will proceed directly to the questions. 

Ms. YELLEN. Very good. 

Chairman CRAPO. And with regard to the questions, I again remind the Members of the Committee that we have 5 minutes each 

for questions, and we will try our very best—we have got a lot of 

time pressures today, and we will try our very best to help you 

keep on course with your 5-minute question period. 

I will begin. First, Chair Yellen, in a speech that Governor Powell gave last week, he outlined a few principles for housing finance 

reform. As part of the discussion, he explained that it was important to do three things: to do whatever we can to make the possibility of future housing bailouts as remote as possible, to change 

the system to attract large amounts of private capital, and to identify and buildupon areas of bipartisan agreement. 

Do you agree with these principles? 

Ms. YELLEN. Yes, I do, Chair Crapo. I would support the principles that Governor Powell put forward and think it is something 

that I hope the Congress will move to in the near future. 

5 

Chairman CRAPO. And I know the answer to this, but I would 

like to have you say it. Do you agree with the urgency that he expressed and that many of us have expressed about the need for us 

to act? 

Ms. YELLEN. Yes. I mean, it has been almost a decade since 

Fannie and Freddie were moved into receivership, and the role of 

the Government and the associated systemic risk remains. And I 

think it is important to move forward with reforms. 

Chairman CRAPO. Thank you. 

There appears to be growing consensus that Congress should consider changing the $50 billion SIFI threshold, also changing the 

Volcker Rule exempting certain institutions from company-run 

stress-testing requirements, and reducing the burdens on community banks and credit unions. 

Do you agree that it would be appropriate for Congress to act in 

each of those areas? 

Ms. YELLEN. I do. 

Chairman CRAPO. Thank you. And could you please give the 

Committee after this hearing—I do not want to use up my time on 

this right now—some additional suggestions of ideas or legislation 

the Committee could consider to reduce the burdens in these areas? 

Ms. YELLEN. Yes, we would be happy to do so. 

Chairman CRAPO. Thank you very much. 

Next, at our hearing last month, Governor Powell said the Federal Reserve is reviewing the Volcker Rule. He noted that there is 

room for eliminating or relaxing aspects of implementation regulation that do not directly bear on the Volcker Rule’s main policy 

goals. 

Can you elaborate on the Fed’s review of the Volcker Rule? 

Ms. YELLEN. Well, we look forward to working with the other 

agencies that have a role in rule writing. It is a very complex rule, 

partly reflecting the legislation, but I think we could find ways to 

reduce the burden, and it should be a multiagency effort. 

Chairman CRAPO. And many of us are aware that the multiagency effort has been slowed down simply, many of us believe, because of the complexity of getting four or five agencies—— 

Ms. YELLEN. I think that is true. 

Chairman CRAPO. ——to all agree on the same thing. 

Ms. YELLEN. Yes. 

Chairman CRAPO. What do you think about the idea of having a 

designated lead agency on this issue? 

Ms. YELLEN. Well, I think that is something that Congress could 

certainly consider. If one agency has a larger regulatory role with 

respect to those institutions, it might be natural for it to take the 

lead. 

Chairman CRAPO. All right. Thank you. And at our last hearing, 

you told me, ‘‘We would like our balance sheet to again be primarily Treasury securities; whereas, we have substantial holdings 

of mortgage-backed securities.’’ However, the FOMC’s plans to reduce the balance sheet include initially not reinvesting $6 billion 

of maturing Treasury securities and $4 billion of agency securities 

per month, suggesting that the Fed may wind down its Treasury 

portfolio more quickly than its mortgage-backed securities portfolio. 

Is that accurate? 

6 

Ms. YELLEN. Well, ultimately when the caps are fully phased in, 

my guess is that they will not be binding and that we will be running down mortgage-backed securities at the rate that principal is 

received on them. It will be a long process, I should say, to go back 

to an old Treasurys portfolio. Even after we have come to the point 

where our balance sheet has been reduced to as low a level as we 

expect to take it, we will still have substantial holdings of mortgage-backed securities. So beyond that, we will be further running 

down mortgage-backed securities and replacing them with Treasurys. So it will be a lengthy process, but the FOMC is committed 

to a primary Treasury-only portfolio in the longer run. 

Chairman CRAPO. All right. I appreciate that, and with that, I 

will yield back 18 of my seconds and go to you, Senator Brown. 

Senator BROWN. Setting a high standard. Thank you, Mr. Chairman. 

History teaches us that when Congress does big things, labor law 

reform and Social Security with Franklin Roosevelt, in 1965 Lyndon Johnson with Medicare, the Congress 2 or 3 years later goes 

back to those issues bipartisanly and makes modest changes to fix 

them, something we have been asking for several years, asking Republicans to do with the Affordable Care Act. They have not chosen 

to work with us bipartisanly to make minor adjustments. 

The same with Dodd–Frank. Instead, we have seen particularly 

a House Financial Services Committee that wants wholesale destruction. Of course, we will work bipartisanly on making the kinds 

of changes that will do what certainly Chair Yellen has spoken 

about in making those reforms. So I just wanted to preface with 

that. 

Madam Chair, you recently stated you do not expect another financial crisis in our lifetimes. Setting aside the delicate question 

of your and my and all of our life expectancies, is that predicated 

on maintaining the strength of the current regulatory structure? 

Ms. YELLEN. Well, let me state what I think I should have stated 

originally when I made that comment. I believe we have done a 

great deal since the financial crisis to strengthen the financial system and to make it more resilient. I think we can never be confident that there will not be another financial crisis, but we have 

acted, in the aftermath of that crisis, to put in place much stronger 

capital and liquidity requirements for systemic banking organizations and the banking system more generally. I think our stresstesting regime is forcing banks to greatly improve their risk management and capital planning. It is giving us assurance that even 

if there is a very significant downturn in the economy, they will be 

able to function and provide for the credit needs of the economy. 

And we have greatly increased our monitoring of the financial system for a broader range of risks. 

But let me say we can never be confident that there will not be 

another financial crisis, but it is important that we maintain the 

improvements that have been put in place that mitigate the risk 

and the potential—— 

Senator BROWN. Thank you. I just want people listening not to 

read your answers to the Chairman about moving on reform and 

moving—that there is some urgency to that, and we do want 

changes. We want them to be modest. But let me sort of further 

7 

paint that picture with this question. In light of your comments to 

me that you may not expect another financial crisis in our lifetimes, but the importance of a good regulatory structure—— 

Ms. YELLEN. Absolutely. 

Senator BROWN. ——diminishes the chances dramatically. Well, 

if so, if the recommendations of the Treasury report that you are 

familiar with that, obviously, the way it was written you did not 

seem to have a lot of input in, the recommendations of the Treasury report that weaken regulations on the largest banks, including 

lower capital requirements and fewer consumer protections, if 

those were adopted, which you continue to have that same level of 

confidence that you just repeated and have said earlier? 

Ms. YELLEN. So I would not be in favor of reducing capital for 

the most systemic banks. 

Senator BROWN. And consumer protections? 

Ms. YELLEN. I think those are important as well. There are a lot 

of things in the Treasury report that we agree with that mirror 

things that we are doing on our own to appropriately tailor regulations—— 

Senator BROWN. And I apologize—— 

Ms. YELLEN. ——but for those banks, it is critically important to 

maintain the capital standards—— 

Senator BROWN. So if we were to adopt—I am sorry to interrupt. 

If we were to adopt the Treasury report recommendations, it would 

more likely result in a potential financial crisis? 

Ms. YELLEN. Well, some of them, yes. 

Senator BROWN. OK, OK. The last question I wanted to ask. I 

want to return to a topic I discussed several weeks ago with your 

colleague Governor Powell. Last year, the Fed proposed adding capital surcharges into the large bank stress test. Former Governor 

Tarullo recently said the biggest banks’ capital requirements ‘‘are 

still somewhat below where they should be,’’ and that incorporating 

the surcharges into CCAR will protect against contagion from one 

of these banks spreading to the rest of the financial system. 

Madam Chair, is the Fed on track to finishing these changes? 

Ms. YELLEN. We are working very hard on those. We are awaiting further work by our staff. We hope to include those surcharges 

and make other adjustments, and to better integrate the capital requirements relating to the stress tests and toward a normal capital—— 

Senator BROWN. But you are assuming, then—can you give us 

with assurance—and, Mr. Chair, this will be the last, and this is 

an easy one. Can you assure us that those changes will be in place 

for next year’s stress tests? 

Ms. YELLEN. It depends on the timing. We will need to go out 

with the proposal, and I cannot guarantee that it will be in place 

that quickly. 

Senator BROWN. But you do not see the Fed heading in the direction of the Treasury report recommendations instead? 

Ms. YELLEN. The Treasury report is supportive of integrating a 

capital buffer relating to the stress tests into our regular risk-based 

capital requirements, but probably is not supportive of including 

the G–SIB surcharges. 

8 

Senator BROWN. Yeah, more than probably. Thank you, Madam 

Chair. 

Chairman CRAPO. Thank you. 

Senator Shelby. 

Senator SHELBY. Thank you. Welcome again, Chairman Yellen. 

In the area of inflation calculations, which you have to deal with, 

and price stability, which is very important to all central banks 

and to us, current Fed calculations show that inflation has fallen 

to 1.4 percent, I believe. This statistic is puzzling to some economists as interest rates were recently raised in June. 

Some have suggested—you are aware of this—that the Fed 

should not continue the practice of gradually raising interest rates 

because inflation has not kept pace with some of the things that 

you had talked about earlier. You said in recent testimony, and I 

will quote, ‘‘It appears that the recent lower readings on inflation 

are partly the result of a few unusual reductions in certain categories of prices.’’ Your words. 

Ms. YELLEN. Yes. 

Senator SHELBY. In addition to these few unusual reductions 

here, is it possible that certain aspects of foreign economies, such 

as slow growth and soft prices in China, are artificially lowering or 

influencing inflation in this country? Or what is it? What is going 

on here? Do you know? And if you know, what do you believe? 

Ms. YELLEN. Well, with respect to the global economy, we have 

been through a period in which there has been a substantial appreciation of the dollar, and that depressed for quite some time import 

prices. But that trend has now come to an end, and import prices 

are rising at a modest rate. So I do not see the global economy as 

at this point mainly responsible for the low inflation readings. 

You know, as I indicated in the quote that you mentioned, I do 

think there are some special one-time transitory factors, these unusual changes reflecting the move to unlimited data plans for cell 

phones, and large declines in some prescription drug prices. There 

may be more going on, and we are watching inflation very carefully 

in light of low readings. 

I think it is premature to conclude that the underlying inflation 

trend is falling well short of 2 percent. I have not reached such a 

conclusion. We are watching data very carefully, and I would say 

I regard the risk as being two-sided with respect to inflation. On 

the one hand, we are seeing low inflation numbers for several 

months. On the other hand, we have quite a tight labor market, 

and it continues to strengthen. And experience suggests that ultimately, although with a lag, we are not seeing very substantial upward pressure on wages, but we may begin to see pressures on 

wages and prices as slack in the economy diminishes. 

So I see the risk with respect to inflation as being two-sided, and 

with respect to how that bears on policy, most of my colleagues and 

I, when we looked at this matter in June, even recognizing that we 

have had several months of low inflation readings and that we are 

focused on trying to understand it, have felt that it probably remains prudent to continue on a gradual path of rate increases. But 

it is something we will watch very carefully, and I want to emphasize that monetary policy is not something that is set in stone. And 

9 

if our evaluation changes with respect to inflation, that will make 

a difference. 

Senator SHELBY. This economy has been in an expansionist mood 

for quite some time. A lot of economists say this is a mature economy. Would you disagree with that? Do you believe this economy 

has got a lot more zip in it? 

Ms. YELLEN. Well, we have had a long expansion, and the unemployment rate is now at really quite low levels in the historic sense. 

But I do not believe that expansions die of old age. There are 

shocks that impact the economy, and a negative shock could end 

the expansion. But I do not see anything inherent in the nature of 

the expansion that suggests that it will come to an end anytime 

soon. 

Senator SHELBY. My time is about gone. What significance is the 

continuing lower price of oil and gas in our economy? I know you 

exclude some of this from your basic monthly calculations. But it 

does have something to say and do about our economy because so 

many things go into oil and gas. 

Ms. YELLEN. Well, the low prices of oil and gas have translated 

into gains to households. It has boosted their ability to buy other 

goods and services. 

Senator SHELBY. Very positive, is it not? 

Ms. YELLEN. Excuse me? 

Senator SHELBY. Overall, very positive in the country? 

Ms. YELLEN. I think on balance it is a positive. 

Senator SHELBY. Sure. 

Ms. YELLEN. Now, oil prices have rebounded off their very lows, 

and that has meant that drilling activity has picked back up again, 

and that is something that is supporting investment spending and 

demand in the economy. 

Senator SHELBY. Thank you, Mr. Chairman. 

Chairman CRAPO. Thank you. 

Senator Menendez. 

Senator MENENDEZ. Thank you, Mr. Chairman. And, Madam 

Chair, thank you for your service. 

When you were here last in February, we discussed the economic 

impact of loss of access to health insurance. You said then that 

large-scale loss of access to health insurance could have a significant impact on household spending for goods and services that 

could also impact job mobility, making it more difficult for people 

to leave jobs for new positions or to start a new business because 

they would be risking their access to health insurance. 

Is that a view you still hold today? And if so, could you explain 

why? 

Ms. YELLEN. So I really cannot quantify any of those effects, but, 

clearly, spending on health care is an important aspect of household budgets, and changes there could have an effect on spending 

on a wide range of goods and services in the economy. And access 

to health care is important. I think research suggests that a certain 

amount of so-called job lock reflects a desire of workers to hang 

onto employer-provided health care. I cannot tell you quantitatively, however, how important that is. 

10 

Senator MENENDEZ. In your testimony you mentioned that possible changes in fiscal policy and other governmental policies in the 

United States represent a source of economic uncertainty. 

Ms. YELLEN. Right. 

Senator MENENDEZ. Would you include potential changes to our 

health care system as one of the factors causing uncertainty in the 

economic outlook? 

Ms. YELLEN. Yes, I think fiscal policy, policies generally, are associated. The level of policy uncertainty is quite high at the moment. 

Senator MENENDEZ. So I certainly believe that if a potential 22 

million more Americans are uninsured by 2026 and cause premiums to skyrocket for middle-class families and those nearing retirement, that is going to have an impact on the economy. New Jersey alone would see 1 million more uninsured under the Republican proposals, a 47-percent increase in uncompensated care, $8.5 

billion lost in Federal funding, the elimination of nearly 100,000 

jobs. I think that has an impact in the economy. 

Let me move to a different topic. What would be the consequences of weakening or eliminating, as some have suggested, 

the Federal Reserve’s full-employment mandate, particularly for 

those workers, many of them minorities, that have been left behind 

in the recovery and continue to face barriers in the job market? 

Ms. YELLEN. Well, I believe that the strengthening of the job 

market that we have seen over the last several years has been particularly beneficial to minorities. Our Monetary Policy Report 

points out—and this is not the first time we have done this—that 

even in a so-called full-employment economy, unfortunately African 

Americans and Hispanics typically have higher unemployment 

rates, substantially so, than other groups. 

Senator MENENDEZ. If I may, my specific question is: What 

would the elimination or weakening of your full-employment mandate mean to those communities? If the Federal Reserve either by 

some suggestion eliminates the full-employment mandate that the 

Fed has or weakens that as one of your core missions, what would 

be the consequences of that? 

Ms. YELLEN. Well, I do believe it is an important mandate that 

keeps us focused on the labor market and wanting to ensure strong 

performance, and we have been very focused on it. 

Of course, we also have a price stability mandate. Now, inflation 

has been running below our 2-percent objective now for many 

years, and so there has not been a conflict between our price stability and employment mandates that we have—— 

Senator MENENDEZ. And I am not suggesting that. But I am simply suggesting that if you were to eliminate or weaken that, 

wouldn’t that have negative consequences? 

Ms. YELLEN. It most likely would. 

Senator MENENDEZ. OK. Then let me ask you finally, how does— 

we see high, rising levels of household debt, widening inequality, 

a neutral interest rate at historically low levels, and to me it is 

critical that the Fed have the ability to respond in the event of another economic decline. How does below-target inflation impact 

household debt? And what signs do you see of inflation coming 

11 

close to the Fed’s 2-percent target let alone exceeding it by dangerous amounts? 

Ms. YELLEN. So as I said, I think the risks with respect to inflation are two-sided, but we are very aware of the fact that inflation 

has been running below our 2-percent objective now for many 

years, and we are very focused on trying to bring inflation up to 

our 2-percent objective. That is a symmetric objective and not a 

ceiling. 

We know from periods in which we have had deflation, which, of 

course, we do not have in this country, but that is something that 

has a very adverse effect on debtors and can leave debtors drowned 

in debt. 

Now, we do not have a situation nearly that serious, but it is important when we have a 2-percent inflation objective to make sure 

that we achieve it, and we are focused on doing that. 

Senator MENENDEZ. Thank you, Mr. Chairman. 

Chairman CRAPO. Senator Scott. 

Senator SCOTT. Thank you, Mr. Chairman. Thank you, Chair 

Yellen, for being here this morning. Good to see you again. Thank 

you for your accessibility as well. We have had a number of conversations. We are not always on the same page, but your accessibility is much appreciated. 

Ms. YELLEN. Thank you. 

Senator SCOTT. You know, the last time we chatted, we talked 

a lot about the unwinding of the Fed portfolio, which I think today 

is about $4.5 trillion or so. I think at the beginning of the crisis 

it was under $1 trillion. Can you just talk for a few minutes on the 

timing of the unwinding? And if you have a target number at the 

end, when would you see us getting there? 

I think my question is germane to the impact that your objective 

will have on South Carolinians who are looking for ways to improve their quality of life, and that coupled with the interest rate 

environment may have a negative impact on first-time homebuyers 

as well as those retirees that have much if not all of their money 

in the market. 

So your comments I would like to apply to those two specific 

groups as you discuss this for a few minutes. 

Ms. YELLEN. OK. So let me see if I can be responsive to that. Our 

intention is to shrink our balance sheet and the quantity of reserves in the banking system in a slow, gradual, predictable way. 

And we have set out a concrete and detailed plan for how to do 

that, and it involves reducing the extent to which we reinvest principal payments that we receive on our holdings of Treasury and 

mortgage-backed securities. 

So when we set the plan into effect, we will set caps on the 

amount of reinvestment that we allow to occur. The caps will 

gradually rise over time, and our balance sheet will gradually run 

off as a consequence of reduced reinvestment. 

We want to make sure that we manage this in a way that is not 

disruptive to financial markets, and in part for that reason, we 

have tried to set out increasingly clearly and in great detail how 

we intend to proceed. So once we trigger this process, I expect it 

to run in the background, not something that we will be talking 

12 

about a lot from meeting to meeting. It will be a predictable process. 

Now, we think that our purchases of assets did have some positive effect in depressing longer-term interest rates, and so over 

many years, as our balance sheet shrinks, we would expect to see 

some increase in longer-term interest rates relative to short-term 

interest rates. But, of course, we will take that into effect, namely, 

a steepening of the yield curve, in how we set the Federal funds 

rate, which will become, is now, and I hope will remain our primary tool for adjusting the stance of monetary policy. And we will 

set that, as always, with a view toward trying to achieve maximum 

employment and price stability. 

Now, finally, you mentioned that our balance sheet was around 

$1 trillion prior to the crisis, and that is true. But it is important 

to recognize that although our balance sheet will shrink appreciably during this process, as will the quantity of reserves, I have 

no expectation of going back to a balance sheet that small. 

One of the factors influencing the size of our balance sheet—— 

Senator SCOTT. I have about a minute left, so I am going to— 

I hate to cut you off, but I want to go to insurance. 

Ms. YELLEN. OK. 

Senator SCOTT. But let me just say this: As we talked about the 

depressing of interest rates, which can be very positive for firsttime homebuyers, it is very negative for those retirees who are depending on the return on their investments to produce their livable 

income, so to speak. 

On the insurance side, we talked as well on the importance of 

having insurance expertise on the FSOC. As we have all mentioned, I think Mr. Woodall’s term expires September 21st or thereabout. Today the way that we have it structured, we could be absent of any insurance expertise on the FSOC. Would you support 

legislation to—I know that you do not necessarily get involved in 

politics, but would you support legislation that would head in the 

direction of making sure that the insurance expertise stays on 

FSOC? 

Ms. YELLEN. So I do think it is important for FSOC to have insurance expertise, and exactly how you go about accomplishing 

that, I do not have a specific recommendation. 

Senator SCOTT. Thank you, ma’am. My time is about up. I do 

want to encourage our Chairman Crapo and Ranking Member 

Brown to continue their work on making sure that the FSOC has 

that continuous insurance representation. Thank you. 

Chairman CRAPO. Senator Warner. 

Senator WARNER. Thank you, Mr. Chairman. Chair Yellen, it is 

great to see you again, and let me just say at the outset it is great 

to be asking somebody a question that does not have to deal with 

Russia. 

You know, Chair Yellen, recently I know the Fed moved 

proactively to scale back the qualitative portion of the CCAR test, 

and I know former Member Tarullo before he left also discussed potential further reforms on CCAR, and many of those I support in 

terms of maybe folding CCAR into the annual—more of the traditional annual review so it is not dual-hatted. 

13 

I do think, though, that CCAR for the largest institutions is important, and in a sense not broadcasting the methodology you are 

going to use before you do the test is important. I would like to get 

your views on that and how you see either that continuing reform, 

which I know you have already gone ahead and moved proactively 

for banks under $250 billion. Do you see more reform? And is there 

some value for continuing to keep CCAR in place for the largest institutions? 

Ms. YELLEN. So I do believe our stress tests and CCAR have very 

substantially strengthened especially the largest banking firms, 

and I think we have in the process gained assurance that these 

firms have enough capital to be able to survive a very adverse, 

stressful scenario while continuing to provide for the credit needs 

of American households and businesses. 

We have looked carefully at CCAR and how we conduct the 

stress tests, and we are continuing to do so, are open to making 

changes, but let me say that conducting these stress tests in a rigorous way and making sure that firms have the capacity to be able 

to meet our capital planning expectations which CCAR has facilitated is critically important to having a sound financial system. 

I cannot really see our putting the models into the public domain. We have been making public the results of the stress tests. 

I think that is an important part of transparency that has 

strengthened market participants’ understanding of the strengths 

and weaknesses of particular banking organizations. And I think it 

is something that has helped to provide market discipline. 

We have tried to make it less burdensome, as you noted, for the under $250 billion institutions. It is conceivable that 1 day if the 

largest institutions were to show on a regular basis that they have 

in place very strong capital planning standards that meet our expectations, that perhaps we could change the qualitative portion of 

the review for some of them, as long as we had that assurance. But 

that remains an open question, and this is a core part of our supervision that is essential. 

Senator WARNER. And I commend in terms of moving up to 250, 

and I even say there may be regional banks that would be even 

slightly higher that might be afforded some relief. And I would 

argue that it is less about kind of annual basis and would be more 

triggered by on the qualitative piece if they change their line of 

business or they introduce a series of new products. 

Obviously, the SIFIs I think need this, and I agree with you that 

broadcasting the methodology on the front end might not be the 

best way to go. 

Can you speak for a minute—you know, one of the ways we saw 

in the crisis was, as a lot of financial transactions moved into the 

shadow banking system, in a sense—and I think we managed to 

try to scoop a lot of those back in back in 2008. 

Ms. YELLEN. Yes, we did. 

Senator WARNER. But capital moves fairly quickly. Where do you 

see in kind of the shadow banking system in 2017 where there may 

be vulnerabilities or areas that we ought to reexamine? 

Ms. YELLEN. Well, so we are constantly looking for 

vulnerabilities and recognize that risk can move outside the regulatory perimeter. I do not have something specifically to highlight. 

14 

I would note that, with respect to shadow banking, the changes 

that we have made with respect to money market mutual funds 

have reduced what was a very important and destabilizing risk. We 

have made a number of changes with respect to the tri-party repo 

market that have reduced risks there. 

So I do see changes that have been made with respect to shadow 

banking that have diminished risks, but we are on the lookout for 

areas where new risks may be emerging. 

Senator WARNER. Thank you, Mr. Chairman. 

Senator SHELBY [presiding]. Senator Cotton. 

Senator COTTON. Thank you. Welcome back, Madam Chair. 

Ms. YELLEN. Thank you. 

Senator COTTON. Much has been made about the slow pace of the 

recovery over the last 8 years. One aspect of the recovery that does 

not get quite as much coverage is the geographically distributed 

nature of the recovery. It has been concentrated primarily in larger 

metropolitan areas. In fact, if you look at small business creation, 

just 20 counties in this country accounted for over half of all small 

business creation. This is in contrast to 25 years ago. In metropolitan counties with more than 1 million people, growth in new businesses was only 3.9 percent. In counties with fewer than 100,000 

residents, it was 8.4 percent. Whereas, in this recovery small business creation in metropolitan counties of more than 1 million is 4.8 

percent. Unfortunately, in small counties of fewer than 100, it is 

negative 1.2 percent. In Arkansas, we call counties with fewer than 

100,000 people ‘‘counties’’ because there is only about—there are 

only 7 out of 75 that have 100,000 counties—or 100,000 people. 

On page 19 of the most recent report, the Fed states that measures of small business credit demand have remained weak amid 

stable supply. I understand that banks’ small business lending is 

weak and it has never really recovered to pre-crisis levels. In your 

testimony you also attribute the outcome to weak small business 

demand for credit, and you say that the supply of small business 

credit is stable. But how do we know that the weak lending demand is the cause of this weakness in small business lending and 

that at least to a degree a contributing factor is not the supply of 

small business loans being caused by the decline in the number of 

community banks in places like rural Arkansas? 

Ms. YELLEN. So we have a number of surveys, including our regular survey on lending standards in banking organizations that 

helps us try to distinguish between demand factors that may be affecting the growth of credit and supply factors. And the statement 

that demand is weak is partially based on that information. 

We do have surveys like the National Federation of Independent 

Business that regularly queries smaller businesses and asks them 

about the problems that they face. And a very small number cite 

inability to gain access to credit as a significant factor that is affecting their businesses. But community banks are important 

sources of supply of credit, especially in rural areas, to small business, and we are very committed to working to reduce the burdens 

that these firms face from regulations so that they can thrive and 

they can meet the needs of consumers and small businesses in 

their communities. 

15 

Senator COTTON. Does your study and analysis show what small 

businesses do in places like Cleveland County and Dallas County, 

Arkansas, when their small community banks close or maybe are 

acquired and then their presence is reduced to an ATM location? 

So if you are a small business there and used to rely on your small 

bank in Cleveland or Dallas County, that bank is no longer there, 

what is the most common avenue for them to try to seek financing? 

Ms. YELLEN. I am not aware of data that bears on that. There 

may be something. If there is, I will get back to you on that. 

Senator COTTON. OK. Thank you very much for your testimony. 

Thank you, Mr. Chairman. 

Senator SHELBY. Senator Van Hollen. 

Senator VAN HOLLEN. Thank you. Thank you, Senator Shelby. 

And, Madam Chair, thank you for your leadership. It is great to 

have you here. 

The last time you were here, we talked about some of the economic—you know, the situation in the country specifically as it related to wage growth. And even as we have seen fairly steady job 

growth, we continue to see very sticky, stagnant wage growth. And 

you indicated that that is partly a result of low productivity, even 

though over decades, even when we had higher productivity, we 

saw very unevenly distributed wage growth. 

And you mentioned that we need to do more in the way of investing in education, job training, whether it is things like apprenticeships, 2-year community colleges, 4 years. And I know you have 

made comments about that recently, and I hope as we look at the 

budget here in the U.S. Senate, we keep that in mind. And, additionally, the need to focus on modernizing our national infrastructure, which is another area of productivity growth where I think 

we could make some progress. And I wish, in fact, we had started 

here in the Congress working with the White House on that kind 

of bipartisan initiative. So I may follow up with you on that. 

My questions do relate to some of the comments made by the 

Ranking Member. Senator Brown reminded us that on the eve of 

the financial crisis, most people were predicting sunny skies and 

clear sailing, did not see the storm clouds ahead. And that is why 

we put in place some of these safeguards, these guardrails to try 

to make sure the economy could grow but without undue risk in 

the system. 

Ms. YELLEN. Yes. 

Senator VAN HOLLEN. And that obviously is the subject of ongoing debate now. So I just have a couple questions relating to the 

guardrails, the safety procedures we put in place. 

Orderly liquidation authority that was part of Dodd–Frank, do 

you believe it is important to maintain and preserve that provision? 

Ms. YELLEN. I believe it is essential to maintain orderly liquidation. We saw during the crisis the absence of a way to resolve a 

nondepository institution, a systemic financial institution in an orderly way led to a massive intensification of the crisis. 

Now, I agree that bankruptcy should be the preferred route for 

resolving a firm that is in difficulty, and Congress in Dodd–Frank 

mandated living wills, and that we should work on the ability to 

resolve these firms under the Bankruptcy Code. I believe we have 

made a great deal of progress in getting firms not only to file these 

16 

living wills, but also to think systematically in the course of their 

regular business how they need to be organized to make them resolvable in the event of distress. 

We have put in place rules to ensure the most systemic firms 

have sufficient gone-concern loss absorbency that they could be recapitalized by bailing in debt holders in a situation where they encounter substantial losses. But while bankruptcy should be the preferred route to resolve such a firm, Title II is a very important 

safeguard. We cannot know exactly what the circumstances would 

be at the time that a firm encounters distress, and that is a very 

workable approach that I believe we absolutely need. 

Senator VAN HOLLEN. Thank you. One other question relating to 

some of the safeguards that were put in place, because some have 

proposed eliminating either the leverage ratio or the capital buffer. 

Former Governor Tarullo said not that long ago that applying a 

simple leverage ratio to banks in exchange for allowing them to escape Dodd–Frank’s capital standards would allow banks to ditch 

safe assets in favor of riskier ones to boost profits. In other words, 

he and many others have said it is important to maintain both of 

these measures in order to prevent undue risk in the system. What 

is your view? 

Ms. YELLEN. So I agree with that. A simple leverage ratio basically imposes a capital charge on a junk bond that is identical to 

the charge that is imposed on holding a Treasury bill, and that 

type of system can result in banks taking on a great deal of risk. 

So I believe risk-based capital should be the most important form 

of capital regulation, that that is what should be binding. And I see 

a leverage ratio as a back-up catch-all that is there in a belt-andsuspenders approach. But it should not be what drives decisionmaking in firms. 

So we have strong risk-based capital. We now have an enhanced 

supplementary leverage ratio that applies to the most systemic 

banks. These two things do need to be calibrated appropriately so 

that the risk-based capital is what is binding. And we are looking 

at the calibration of that supplementary leverage ratio because it 

may be that it is high, for example, it affects the custody banks and 

maybe having some unintended adverse consequences. But both 

need to be in place, and they need to be appropriately calibrated. 

Senator VAN HOLLEN. Thank you. 

Senator SHELBY. Senator Perdue. 

Senator PERDUE. Madam Chair, good to see you again. Thank 

you for being here and for your service. 

I just have two quick questions, but the first one, I am very concerned about global debt. The Institute of International Finance recently reported that their estimate of total global debt is $217 trillion or more than 300 percent of global GDP. Do you agree with 

that directionally? 

Ms. YELLEN. So I have not heard that number. That could be. I 

do not have that number at my—— 

Senator PERDUE. Well, of that, $60 trillion is estimated to be sovereign debt. We have about $20 trillion of the $60 trillion. With 

that as background, the four large central banks also have their 

largest historic balance sheets, as you have said before. Japan, 

17 

China, EU, and U.S. have collectively close to, approaching $20 

trillion now of balance sheet size. 

As you talk about reducing the size of the Fed’s balance sheet, 

are you coordinating with these other central banks and looking at 

emerging market debt, particularly the $300 billion that is coming 

due by the end of 2018, relative to the size of your balance sheet 

here in the United States? 

Ms. YELLEN. Well, I would not say ‘‘coordinate.’’ We certainly 

consult with one another and try to make sure we meet regularly 

and discuss our policy approaches, make sure that other central 

banks understand how we are looking at our economies and policy 

options. So I think the major central banks understand the approach that others are taking, but trying to ask in an aggregate 

sense how much debt is outstanding is something that we are not 

doing. Our economies are in rather different situations. While we 

all encountered weaknesses that were sufficiently severe that 

Japan, the ECB, the Bank of England, the United States, we all 

resorted to purchases of longer-term assets to support growth, I 

would say the United States is further along in the process of normalizing monetary policy—well, at least in the Bank of Japan and 

the ECB. 

Senator PERDUE. Are you concerned about the emerging market 

debt with so much of that denominated in dollars today? 

Ms. YELLEN. Well, it is a risk. A significant amount of that is in 

China, but that is not the only country where there is substantial 

corporate dollar-denominated debts. And certainly that is a risk 

that we have considered that affects the global economy. 

Senator PERDUE. With regard to the Fed’s balance sheet, it is currently about $4.5 trillion. Senator Scott just asked earlier and 

I did not quite get the answer: Is there a directional limit or a target that you have set at this point for the size of that balance 

sheet? You did say that you did not see a $1 trillion balance sheet 

again. But is there a target and a time period that you could discuss publicly about the size of that balance sheet? 

Ms. YELLEN. So we do not have a target for the ultimate size of 

our balance sheet. What we have said is that we expect the quantity of reserves in the banking system, which is now a little bit over 

$2 trillion, to shrink considerably. How small reserve balances will 

become when we are done this process is something we do not 

know. 

A lot has happened over the last decade to affect the demand for 

reserves, and as this process occurs, we expect to learn more about 

how the demand by banking organizations for reserves has 

changed. But I do want to point out that the overall size of our balance sheet depends not only on the quantity of reserves but on 

other non-reserve liabilities, importantly including currency. Back in 2007, the stock of currency outstanding was around $700 billion, and it now stands at closer to $1.5 trillion. And so even if 

reserves were to shrink to zero, our balance sheet would not go 

below $1.5 trillion. 

Senator PERDUE. I am almost out of time. I have one last question. This is a long recovery. It has been very weak, but it has been 

very long, almost 9 years, and the typical recovery in U.S. history 

is about 58 months, about 5 years. So the question I have is: With 

18 

consumer confidence right now being at a 13-year high and yet consumer debt, as you just mentioned, has risen again in the last couple of years back to approaching 100 percent of household income, 

what are your concerns relative to the strength of this market and 

the fiscal policy that is coming out of Washington over the last couple years, and even this year, relative to a potential correction in 

this longstanding recovery, the weak recovery? And does the economy have energy to pop and recover from this extended period of 

weak economic growth? 

Ms. YELLEN. So I do have a reasonable level of confidence that 

the expansion can continue, and we are trying to put in place a 

monetary policy that will facilitate that. Often previous downturns 

following expansions have reflected inflation rising to levels that 

are unacceptable, forcing a tightening in monetary policy. And we 

have a very different situation now with inflation running below 

our target rather than above it. 

Of course, as I said, we are attentive not only to downside but 

also to upside inflationary risks, and we are focused on that. 

With respect to consumer debt, I think households are generally 

in a stronger position. Mortgage debt has declined significantly relative to household income. Student debt has risen enormously. But 

a lot of the expansion of debt is among higher-income households 

with strong creditworthiness, and the burden of debt payments relative to household income is low. So, of course, there are risks in 

some areas there, but overall I would not point to household debt 

as something that is flashing red on a financial stability concern. 

Senator PERDUE. Thank you. 

Thank you, Chair. 

Chairman CRAPO [presiding]. Thank you. 

Senator Warren. 

Senator WARREN. Thank you, Mr. Chair. It is good to see you 

again, Chair Yellen. 

I want to follow up on the letter I sent you last month urging 

the Fed to remove the Wells Fargo board members who served during the bank’s fake accounts scandal. And I appreciate the response 

you sent me earlier this week, which acknowledges that you have 

legal authority to remove these board members and that confirms 

that you are willing to use that authority if it is warranted. And 

that is a question I want to get at today. 

How could removal of these board members not be warranted 

given the facts that we already know? You know, the 2008 financial 

crisis showed that the big banks had completely inadequate risk 

management systems, and after the crash, the Fed established 

tough new rules for risk management. Those rules imposed higher 

risk management standards on bigger and more complex institutions, which means that Wells Fargo by law had to meet a very 

high standard. 

So let us lay this out. The Wells Fargo board of directors is ultimately responsible for risk management at the bank. Is that right, 

Chair Yellen? 

Ms. YELLEN. That is a responsibility. 

Senator WARREN. Good. So the board is responsible, and here is 

what they are responsible for under the Fed’s own regulations: 

making sure that there are ‘‘processes and systems to integrate 

19 

risk management with management goals and its compensation 

structure,’’ and making sure there are ‘‘processes and systems for 

ensuring effective and timely implementation of actions to address 

emerging risks.’’ 

Now, Wells Fargo did not come close to meeting those requirements. They established impossible cross-selling goals and set up 

a compensation structure that put enormous pressure on employees 

to open new accounts for existing customers. And despite a mountain of evidence that these incentives were leading to the creation 

of fake accounts, the board did nothing for years. The result was 

thousands of employees opening more than 2 million fake accounts. 

So can you explain to me how the Wells board can possibly have 

satisfied its obligations under the Fed’s risk management regulations? 

Ms. YELLEN. So I am not prepared to discuss in detail what is 

a confidential supervisory matter. I will say that the behavior that 

we saw was egregious and unacceptable, and it is our job to understand what the root causes were of those failures. And as I have 

agreed, we do have the power, if it proves appropriate, to remove 

directors. A number of actions have already been taken, and we 

need to conduct a thorough investigation to look at the full record 

to understand the root causes of the problems, and we are certainly 

prepared to take enforcement actions if those prove to be appropriate. 

Senator WARREN. Well, I appreciate that, Chair Yellen, because 

we already know a lot that is just in the public record and that 

Wells itself has already admitted to, and that, in fact, Wells Fargo’s own board commissioned an investigation by the law firm 

Shearman & Sterling and found that the board was far too deferential to Wells’ executives on risk management issues and ignored 

several red flags about the scope of the fake accounts scandal. So 

there is already a lot out there in public. 

And here is what worries me: Time after time, big banks cheat 

their customers, and no actual human beings are held accountable. 

Instead, there is a fine, which ultimately is paid for by shareholders, not by executives, and certainly not by directors of the 

board. And nothing is going to change at these big banks if that 

does not change. 

You know how I know that for a fact? It is because in 2011 the 

Fed fined Wells Fargo $85 million for illegally steering mortgage 

borrowers into costlier loans, and the Fed specifically said those illegal practices were caused by ‘‘incentive compensation and sales 

quota programs, and the lack of adequate controls to manage the 

risks resulting from these programs.’’ So the Fed fined Wells in 

2011 for failing to manage the risks resulting from bad incentive 

compensation practices. And what did Wells do? For the next 4 

years, immediately after that fine, the board signed off on incentive 

compensation practices that led to the creation of 2 million fake accounts. Fines are not working with these giant financial institutions. 

If bank directors who preside over the firing of thousands of employees for creating millions of fake accounts can keep their jobs, 

then I think every bank director in this country knows that they 

20 

are bulletproof. And that poses a danger to the rest of us every single day. 

You have the power to change the culture on Wall Street. I know 

you care about this issue. I hope you will use that power. 

Thank you, Mr. Chairman. 

Chairman CRAPO. Thank you. 

Senator Rounds—oh, excuse me. Senator Sasse. 

Senator SASSE. Thank you. Madam Chair, thanks for being here. 

I am very concerned about the most recently available data on 

job openings and job hires. As you probably know, there are 6 million open jobs in America right now, and yet job hire numbers are 

falling. I hear about this from Nebraska businesses every week 

when I am home, the difficulty they have in finding and retaining 

talent. 

What do you think the most prominent causes are of the mismatch between job openings and job seekers right now? 

Ms. YELLEN. So it is commonly the case that with an unemployment rate as low as we have now that many employers would have 

vacancies and regard them and report that they are hard to fill. In 

fact, the fraction of firms reporting that jobs are hard to fill is in 

a way an alternative to the unemployment rate as a measure of 

labor market slack. So with a 4.4 percent unemployment rate, you 

should expect that there would be many firms that would find this. 

That said, I agree that there is job mismatch, that there are 

kinds of jobs that firms have had a good deal of difficulty in filling. 

I often, when I am asked about productivity growth and problems 

in the labor market, talk about the importance of worker training 

programs, education. We routinely hear that there are jobs, for example, in manufacturing, but ones that require skills that those 

who are losing jobs do not have. And I often, when I travel, look 

at programs that have been devised in different parts of the country to try to enable workers who are having a tough time finding 

jobs fill the jobs that are available. And I have seen examples of 

nonprofits partnering with State and local government and with 

local businesses, community colleges, to put in place programs that 

are linked to job opportunities that fill that gap. With a tight labor 

market, I hear many more firms telling me that they are doing 

their own training, putting in place and expanding training programs to try to fill these vacancies. 

Senator SASSE. Thank you for that. I am trying to get my hands 

around, though, whether or not we think this is a new normal and 

somehow economic growth is going to solve this problem, or whether or not we have a set of cultural issues or institutional issues 

around mid-career job retraining in particular. 

Nick Eberstadt at American Enterprise Institute has data that 

shows that prime-age male labor force participation rates have 

been declining for over 40 years. We have gone from 25- to 55-yearold males nonparticipating in a seemingly quasi-voluntary way 

from about 4 percent 40 years to pushing 15 percent today, I believe. Do you think this is a new normal? 

Ms. YELLEN. Well, we have had many decades of declining labor 

force participation by prime-age men, and I think this reflects a 

whole variety of adverse trends related particularly to technological 

change that has eliminated many middle-income jobs, those that 

21 

can be replaced by technology, combined with global outsourcing 

and production. And the individuals that have lost those jobs have 

found it difficult to acquire the skills necessary to be reintegrated 

into the labor market. And many individuals with less education 

are finding it difficult to be placed in jobs that are middle-income 

jobs. And so this perhaps intensified during the recession, but it is 

a much longer-lasting trend, and, you know, we have seen now, unfortunately, this is likely tied to the opioid crisis. It is tied to the 

problems that many communities have. You know, we have even 

seen an increase in death rates due to deaths of despair, suicide, 

drugs—— 

Senator SASSE. Pardon me jumping in—— 

Ms. YELLEN. ——among these communities, and so this is a very 

serious matter. 

Senator SASSE. I think there are social maladies all around this 

that will be valuable to unpack with your input. If we had longer 

rounds, I would also ask you some questions about the new multicareer economy that we are inevitably headed toward and the fact 

that this institution is not at all nimble or prepared to think about 

what mid-career job retraining institutionalization looks like. But 

before I am out of time, I want to ask you just one question on 

trade. 

Corn exports from the U.S. to Mexico have fallen 7 percent just 

in the last 5 months. Obviously, Mexico has been exploring other 

trading partners. There is an attempt on Mexico’s part to turn from 

the U.S. toward Brazil for certain grains and other commodities. 

Do you think that the U.S. rhetoric around increasingly protectionist tone is having a direct effect now on people trying to prenegotiate other trading partners? And do you have historical examples of moments like this where we are not yet in a trade war but 

we seem to be speaking in a way that implies we might go there 

and we are already seeing effects on certain agricultural commodities and exports? 

Ms. YELLEN. I am going to pass, if you do not mind, on this question. I think this is—— 

Senator SASSE. I mind a little bit. 

[Laughter.] 

Ms. YELLEN. You know, this is a matter that is well outside the 

domain of monetary policy and really is a matter for Congress and 

the Administration. 

Chairman CRAPO. Well, I was going to ask you to keep your response short, anyway. 

[Laughter.] 

Chairman CRAPO. Thank you, Chair Yellen. 

Senator Donnelly. 

Senator DONNELLY. Thank you, Mr. Chairman. And, Madam 

Chair, thank you for your service to the country. We greatly appreciate it. 

Ms. YELLEN. Thank you, Senator. 

Senator DONNELLY. This is a subject that my colleague Senator 

Sasse touched on a little bit and then you mentioned, and that is, 

my State, like many others, is in the midst of a severe opioid abuse 

epidemic. Hoosiers of all ages and backgrounds have been impacted—families, friends, personal addictions. And it not only imVerDate Nov 24 2008 12:26 Dec 15, 2017 Jkt 046629 PO 00000 Frm 00025 Fmt 6633 Sfmt 6633 L:\HEARINGS 2017\07-13 ZDISTILLER\71317.TXT JASON
22 

pacts health outcomes but has a real consequence on economic and 

employment opportunities. 

The national unemployment rate is at 4.4 percent, but the labor 

participation rate has gone down. People talk about the aging population, this and that. How much of a factor do you think the 

opioid abuse situation has been? 

Ms. YELLEN. So I do think it is related to the decline in labor 

force participation among prime-age workers. I do not know if it is 

causal or it is a symptom of long-running economic maladies that 

have affected these communities and particularly affected workers 

who have seen their job opportunities decline. This is something 

that has been going on for many decades. Surveys suggest that 

many prime-age men who are not actively participating in the 

labor market are involved in prescription drug use, not always 

opioids. But, you know, we are seeing, as I mentioned, an increase 

in death rates which is extremely unusual. I think the United 

States is the only advanced nation that I know of where in these 

communities we are actually seeing, especially among less educated 

men, an increase in death rates partly reflecting opioid use. And 

it is obviously a very serious and heartbreaking problem. 

Senator DONNELLY. I have felt for a long time that, you know, 

if we—the job opportunities are there if we could have somehow 

trained these individuals and gotten them to avoid this. And I am 

not asking you to be a social scientist, but I think you already mentioned this. There seems to be a clear indication or a clear connection between this and the opportunity to go to a job, to get employed, to have success, and to, in effect, have hope and dignity and 

purpose, it would seem to me. 

Ms. YELLEN. I would agree with you, and I feel that all of those 

things are bound up in this opioid crisis and are interacting in 

ways that are really quite devastating for these individuals and 

their communities. 

Senator DONNELLY. A little bit different topic but one that I 

think is going to become more and more in the front of our windshield, because I think that, you know, if we look and interest rates 

start to go up, one of my top concerns is the national debt. I think 

the debt already has an impact on future generations as the cost 

of borrowing is increasing. I think it is going to get more expensive 

very soon. It is $260 billion plus a year. And you look at that, and 

we have discussions here about how do we fund the National Institutes for Health which is going to cure cancer, cure diabetes, cure 

multiple sclerosis, and all those funds that we sit and try to figure 

out how do we get enough of, we are spending $260 billion a year 

just paying interest on our debt. 

Is there a tipping point coming up or is there a point that you 

look at and you go this is really—as the interest rates go up and 

the amount of it goes up, that you look and you go this is going 

to have a very, very significant impact? 

Ms. YELLEN. So fiscal policy, we have long known, under current 

policy is on an unsustainable course. And as the population continues to age, especially if health care costs rise, as they have historically, more rapidly than the general price level, we are going 

to see the debt-to-GDP ratio rise from its current level of about 75 

percent, which is not frightening but also not low, to unsustainable 

23 

levels. And the increase in interest on the debt will be a factor contributing to its unsustainability. You routinely see projections by 

the Congressional Budget Office. They make assumptions about the 

path of short- and long-term interest rates. They project—I do not 

have the exact numbers, but short-term interest rates rising. 

My colleagues publish our estimates of longer-run normal shortterm interest rates, which we see is about 3 percent. Now, that estimate might change, but CBO also sees short-term interest rates 

rising toward something like that level with long-term interest 

rates moving up. And so that is going to be increasingly a factor 

driving debt dynamics. 

Senator DONNELLY. Thank you. And thank you for your service, 

and 1 week from today, on July 20th, 330 workers, those Carrier 

workers that we have talked about so many times, start to lose 

their jobs. So, please, keep them in mind about how we make sure 

that their chances for success are ahead and that we have trade 

laws that stand up for all our workers. 

Thank you very much. 

Chairman CRAPO. Thank you. 

Senator Rounds. 

Senator ROUNDS. Thank you, Mr. Chairman. Madam Chair, welcome once again. We always appreciate the opportunity to visit 

with you. 

I was very pleased to hear your expression of concern regarding 

the enhanced SLRs and, in particular, the impact it would have on 

a series of not a lot of banks but on some banks that are the custody banks. 

Ms. YELLEN. Yes. 

Senator ROUNDS. I am interested because for mutual fund holders the costs for those banks is passed on directly to the mutual 

funds. I am just curious. I think it is an issue that should be addressed, and I am just wondering if you have got a timeframe or 

a concept in terms of how to address the increased costs that they 

have, even though they are holding, as you have indicated, one of 

the safest assets out there or instruments out there in terms of 

their use of central bank instruments. Can you talk a little bit 

about what your thoughts are? 

Ms. YELLEN. So I would agree with you. We have been in touch 

and are aware of the issues faced by the custody banks. It is one 

of the reasons that we are looking at the issue of the appropriate 

calibration of the enhanced supplementary leverage ratio for those 

banks. Perhaps it is too high relative to risk-based capital requirements. I am comfortable with the level of risk-based capital requirements, but this is something that needs to be looked into. Different countries have taken different approaches. One approach is 

to exempt certain items like central bank reserves from the ratio. 

Another alternative is to recalibrate the ratio. 

I cannot give you a definite timetable for our reconsideration of 

this, but it is something where perhaps our regulations had an unintended consequence, and we are looking at that carefully. 

Senator ROUNDS. Do you feel you have the resources or the capabilities to handle this? Or will it require legislation? 

Ms. YELLEN. My guess is that we would not need legislation. I 

will get back to you if that is not the case. 

24 

Senator ROUNDS. That is fine. I would appreciate—— 

Ms. YELLEN. We believe it is something that we could change by 

the banking regulators. 

Senator ROUNDS. I think it does two things. Number one, I think 

it makes our banks within the United States less competitive with 

some other competitors elsewhere that do not have the higher rate 

or the higher requirement. And, second of all, I think that cost is 

ultimately passed on to mutual fund holders, and I think that just 

simply means one more fee that takes away from their net return. 

And in either event, I think we should at least examine it, and I 

think there is room to be able to reduce some of that cost which 

is passed on to mutual fund holders. 

Ms. YELLEN. OK. We are going to have a careful look. 

Senator ROUNDS. Thank you. 

Second of all, I am just curious. There has been considerable debate in the Banking Committee this year about reforming Dodd– 

Frank and the right-sizing of some of the regulations and thresholds that Dodd–Frank established. I have heard a number of concerns from financial institutions that arbitrary thresholds set in 

Dodd–Frank make it difficult for them to do business. The Chairperson also mentioned concerns in his opening statement. 

Congressman Barney Frank himself admitted the pitfalls of 

these thresholds. In a radio interview last November, the former 

Congressman said, and I am going to quote him verbatim: ‘‘We put 

in there that banks got the extra supervision if they were $50 billion in assets. That was a mistake. We should have made it much 

higher, $125 billion or more, and we should have indexed it.’’ 

I am thinking perhaps even looked at other alternatives as opposed to a dollar threshold, perhaps the business model and what 

the business activities are of the individual institution. 

With this in mind, and even the fact that one of the architects 

of Dodd–Frank openly admitted that the current supervisory 

threshold are inappropriate, could you state here and now that the 

thresholds either should be raised or we should be looking at perhaps even changing to a business model approach? We did the TAILOR Act or we provided the TAILOR Act as an alternative for 

smaller banks, and that would model the types of regulations based 

upon the business activity. Could you give us your thoughts? And 

is it time now to start taking a hard look at changing that? 

Ms. YELLEN. So we have already said that we would favor some 

increase, if Congress sticks with a dollar threshold, that we would 

support some increase in the threshold. An approach based on a 

business model or factors is also a workable approach from our 

point of view. Conceivably, some of the enhanced standards should 

apply to more firms with lower levels of assets and others with 

higher levels. So I think either type of approach is something that 

we could work with and would be supportive of. 

Senator ROUNDS. Madam Chair, first of all, thanks for being 

here. We appreciate it, and I appreciate the information that you 

have provided. 

Thank you, Mr. Chairman. 

Chairman CRAPO. Thank you. 

Senator Cortez Masto. 

25 

Senator CORTEZ MASTO. Thank you, Mr. Chairman. Welcome, 

Chairwoman Yellen. It is always good to see you, and thank you 

for your service. 

Ms. YELLEN. Thank you. 

Senator CORTEZ MASTO. I appreciate your comments with respect 

to the opioid epidemic, because in Nevada that is having an impact. 

We see it. And every time I go home, we are having difficulty in 

hiring, but there is so much going on with respect to our economy 

because of it. 

There is another area I would like to have discussion with you, 

and that is housing. In both northern and southern Nevada, I also 

frequently hear concerns about the housing market from my constituents. 

In northern Nevada, home prices have been rising sharply, and 

there is a lack of available inventory, particularly for people seeking to become first-time homebuyers, and the rental vacancy rates 

are extremely low. 

In southern Nevada, we still have the worst rates of homeowners 

being underwater on their mortgages, and that is even nearly a 

decade after the recession. And recent data suggests that Las 

Vegas has the worst rental affordability crisis for lower-income 

households of any major city in the country. 

Can you opine or just discuss the role that housing affordability 

plays in the overall health of the U.S. economy? And can we count 

on home ownership to be the primary source of wealth building for 

our younger generation like it used to be at one point in time? 

Ms. YELLEN. Well, housing plays an important role in the economy. Although housing construction, residential construction, is not 

an enormous sector, housing has very important influence on economic performance and on the health of consumers. For such a 

large share of Americans, a house is their most important asset, 

and housing prices affect well-being, their wealth, and availability 

of credit and access to ability to borrow. So the health of the housing market is extremely important. 

Senator CORTEZ MASTO. So talk about it when it comes to the 

younger generation, because the younger generation that I talk to 

grew up through the housing crisis, and at one point in time owning a home was the best investment that you could make. I do not 

know if they think that anymore. And do you think that is something that is going to be of concern for our future and for the 

younger generation when it comes to owning a home? 

Ms. YELLEN. So there has always been a big debate about whether or not it is correct that housing is the best investment that one 

can possibly make. And I agree with you that in the aftermath of 

the crisis, views on that are changing. I am not going to opine on 

a personal view as to whether or not that is true. But, you know, 

for all but those individuals with very strong credit, it is extremely 

difficult now to gain access to mortgage credit. And we do have 

overall, I would say, a shortage of housing, whether it is owner-occupied housing or rental housing, relative to what you would think 

would be a normal pace of household formation in this country. As 

you have said, inventories are low. We have seen a significant pickup, though, in production of rental housing. 

Senator CORTEZ MASTO. Thank you. 

26 

Let me jump back to another issue that I hear from my constituents. As you well know, the FOMC has raised interest rates four 

times since 2015. This generally, my understanding, helps banks’ 

revenue since they can charge more to lend money. But what I 

hear from constituents, particularly savers, is they do not see any 

benefit or interest rate increases that help them when they want 

to save their money. And so when do you anticipate that the impact of the Fed’s rate hikes will be felt by savers in this country? 

Ms. YELLEN. So, unfortunately, there is a lag in terms of when 

retail depositors see an increase in their rates. We are beginning 

to see for those who hold large CDs, for example, that it is possible 

to obtain somewhat higher rates. But especially with rates having 

been so low for so long, I think it will take some time before competition among banking organizations begins to drive up the rates 

that smaller retail depositors see. I think that will occur, but it will 

take a while to show up. 

Senator CORTEZ MASTO. OK. Thank you so much. I appreciate 

your service. 

Ms. YELLEN. Thank you. 

Chairman CRAPO. Senator Corker. 

Senator CORKER. Thank you, Mr. Chairman. Madam Chairman, 

thank you for being here. I am glad to see some of the moves that 

you are making and contemplating at the Fed. 

I know there has been a lot of discussion about productivity, and 

that has been going on for some time. And for many, many years, 

the only game in town as it related to dealing with the economy 

was the Federal Reserve. Congress was in a place where likely no 

actions were going to be taken, and so everybody really, with your 

predecessor and even much of your term, has relied upon the Fed 

to be doing things to hopefully stimulate the economy and move 

things ahead, which is too much of a burden for the Fed. I mean, 

we should be taking actions ourselves. We are finally in a place 

where maybe—it is not for sure, of course—we will be dealing with 

some things as Congress, to deal with fiscal issues, other issues 

that relate to the economy. One of those coming up could be tax 

reform itself. 

So we have been in a situation with low inflation, really below 

where you would like for it to be, low productivity, below where you 

would like for it to be. And these are not questions to, you know, 

lead in a particular direction, but is tax reform one of those things 

that, should Congress pursue it in a productive manner, could be 

really helpful as collateral to move the economy ahead in a much 

more rapid way? 

Ms. YELLEN. Well, I would certainly agree that appropriately designed tax reform could have a favorable effect on productivity. Of 

course, it obviously depends on the details of what you do. 

Senator CORKER. Got it. 

Ms. YELLEN. And I do not have numbers to give you, but certainly there are distortions in the Tax Code that I believe are negatively impacting productivity. And so I think there is scope there 

to have a favorable impact on long-term economic growth. 

Senator CORKER. So one of the things that we are going to be debating on both sides of the aisle, we have got, you know, huge fiscal 

issues as a Nation. Obviously, constraining spending is one of the 

27 

ways we all, I am sure in appropriate manners, want to look at to 

keep our deficits down. But growth is really the easiest way to 

move away from the issues that we have. 

Mr. Mulvaney was in my office this week. You know, tax reform 

is beginning to be something of a discussion, and I know that the 

current Administration wants to see growth get into the 3-percent 

range to move beyond where we have been for some time. And is 

tax reform from your perspective something that, again, if done 

properly, has the ability to move us into a much higher growth rate 

here in the United States? 

Ms. YELLEN. So as I said, I think it is something that could have 

a favorable impact if appropriately done. You know, productivity 

growth is something—it is very hard to move, and if you put in 

place a policy that predictably raises productivity growth a few 

tenths, you would probably regard that as a very good payoff. So 

the numbers typically that studies show when you do have a positive impact on productivity, they are not a percent, they are not a 

percent-and-a-half. It is hard to raise productivity growth. So I 

think it moves in the right direction, but it is challenging given the 

last 5 years’ productivity growth has averaged a half percent; the 

last decade, something like 1.1 percent. So overall growth for the 

economy is productivity growth plus growth of the labor force. 

Labor force growth is declining. It is quite low. 

It is challenging to move productivity growth up that much, but 

I hope that Congress and the Administration will focus on changes 

that will succeed in accomplishing that. 

Senator CORKER. And how much would productivity growth need 

to be to achieve, you know, a stable economic growth of 3 percent, 

GDP growth? 

Ms. YELLEN. So I do not have the precise number for you, but 

it would probably have to rise to something over 2. 

Senator CORKER. Productivity over 2 to get economic growth to 

3. 

Ms. YELLEN. Right, given the labor force—— 

Senator CORKER. And just based on—again, these are not leading 

questions, because we are going to have a significant debate about 

that, about this soon. Do you think it is achievable for us based on 

all the things that you see right now to even achieve 3 percent 

growth in the near term, in the next 5-year period? 

Ms. YELLEN. So I think it is something that would be wonderful 

if you can accomplish it. I would love to see it. I think it is challenging. 

Senator CORKER. You think that would be very difficult? 

Ms. YELLEN. I think it would be quite challenging. 

Senator CORKER. Thank you, Mr. Chairman. 

Chairman CRAPO. Thank you. 

Senator Heitkamp. 

Senator HEITKAMP. Thank you. And Senator Corker gave you— 

welcome. 

Ms. YELLEN. Thank you. 

Senator HEITKAMP. I will start there. He gave you a 5-year window. How likely is it that we are going to see 3 percent growth in 

the next 2 years? 

Ms. YELLEN. Well, I think that would be—— 

28 

Senator HEITKAMP. Quite challenging. 

Ms. YELLEN. ——difficult. 

Senator HEITKAMP. Yeah, we heard that. So, I mean, I think 

there are strategies we should all pursue because I think it has got 

to be one of the goals in fiscal and monetary policy to look at what 

we can do to get out of the flat growth rate of 2 percent. And I 

think there are a lot of people now basically saying we are in a perpetual 2 percent growth, too mature, the economy is too mature, 

the economy is too sluggish to ever get there. And so I think it is 

critically important that we examine strategies together, very real 

strategies, not make-believe, which just—you know, asking for productivity so you could mask a political agenda. So I will just leave 

it there. 

What percent of export growth in the last 2 years do you think 

has been related to commodities and agriculture? 

Ms. YELLEN. I am sorry. I do not have that number in front of 

me. I can get back to you on it, but I do not—— 

Senator HEITKAMP. That would be great, because I think what 

you are going to find is that when you look at export growth, one 

of the great stories has really been an increase in exports of oil, an 

increase in exports of energy, and certainly agricultural exports are 

always a great story when we are talking about balance of trade. 

Unfortunately, right now, as you know, commodities are getting 

particularly hard hit. North Dakota is a commodity-dependent 

State in a lot of ways, and the dollar values being high never help 

us, in my opinion. But we are challenged with bad weather, but we 

are also challenged with a lot of uncertainty in the trade sector. 

Are we going to continue to have the trade regime that we currently have in NAFTA? Are we going to be able to do things within 

a bilateral context in the Asia Pacific Rim that will replace, in fact, 

the promise of TPP? These are all great challenges. 

How do you see the trade disruption, trade policy disruption having an impact on agricultural exports and commodity prices? 

Ms. YELLEN. So I really do not want to wade in in detail into 

trade policy, which is the responsibility of Congress and the Administration. 

Senator HEITKAMP. But you would agree that it is part of—trade 

policy is part of our opportunity for economic growth, part of our 

overall economic—a critical component to our economic growth, you 

would agree? 

Ms. YELLEN. It certainly has been. 

Senator HEITKAMP. OK. I think we all understand the benefit of 

low commodity prices in terms of bringing down cost of production 

for companies, and it has increased the disposable income for consumers. But at the same time, we have not seen the type of boost 

to the economic growth in GDP that you would suggest, you know, 

just even taking a look at what has happened with gasoline prices, 

what has happened with natural gas prices, as either an input in 

the chemical industry or as a major component of manufacturing 

costs. 

How are you weighing this tension as you consider further reduction in the Fed’s balance sheet along with possible hikes to interest 

rates? 

29 

Ms. YELLEN. So we are considering the overall economic outlook 

relative to our objectives of maximum employment and price stability. And commodity prices, energy and oil prices certainly feed 

into our view of the outlook. For example, the huge decline we saw 

in oil prices is certainly something that substantially depressed investment spending in the United States, although it was a plus for 

consumers. We are now seeing a pickup in drilling activity which 

is supporting spending on plant and equipment. But we need to 

look overall at all sectors of the economy, and I guess I would summarize that by saying although there are varied trends in different 

sectors, this year we have had 180,000 jobs a month; last year, 

slightly more, about 190,000. This has been going on for a long 

time. It has been—you know, we cannot really control the distribution of jobs across sectors that are created, but it has been driving 

a stronger and stronger labor market with unemployment rates 

that are now at, you know, close to historically low levels. 

Senator HEITKAMP. Just to lay down a marker, I would suggest 

that the reduction in commodity prices, the challenges of the commodity industry, whether it is agriculture or whether it is energy, 

when you look at job growth in those very difficult times after 

2008, a large percentage of that job growth was equated to energy 

job growth. And so it is critically important that we not just look 

at one side of the equation. 

Ms. YELLEN. Sure, absolutely. 

Senator HEITKAMP. That is the point that I want to make, and 

any analysis on commodity prices in the context of the greater national economy and productivity, and maybe any little statement 

you can make on trade, we will follow up with questions. 

Thank you so much, Chairwoman. 

Ms. YELLEN. Thank you, Senator. 

Chairman CRAPO. Senator Tillis. 

Senator TILLIS. Thank you, Mr. Chair. And I want to thank Senator Cortez Masto for consistently and in the right committees 

bringing up the concern of affordable housing, both home ownership and affordable rental housing. I share virtually all the sentiment I have heard in every committee that she has spoken on it. 

I want to get back to—I was not planning on it, but Senator 

Corker brought up something that I am very interested in, because 

we do have to increase productivity. And at least in North Carolina, when we were in a financial crisis, and a fourth quartile State 

performer, we figured out a way to do that which had to do with 

the Tax Code and regulations. 

Now, I want to go back to regulations first. I think probably since 

Dodd–Frank, when I met with Chair Greenspan a year-and-a-half 

or so ago, he mentioned that up to that point since Dodd–Frank, 

some 350,000 jobs had been created that are called ‘‘regulatory 

compliance,’’ in the category of ‘‘regulatory compliance.’’ In your 

judgment, is that a job that improves productivity? 

Ms. YELLEN. Well, look, we put in place regulations to serve important economic—— 

Senator TILLIS. I understand that, but I am just saying, in your 

professional judgment, does a job that relates to regulatory compliance contribute to productivity? 

Ms. YELLEN. Well, it is a cost of doing business. 

30 

Senator TILLIS. OK. So—— 

Ms. YELLEN. And it is imposed, but for reasons that produce presumably benefits. 

Senator TILLIS. I understand. If we take a look at—there are various ways that we are going to stimulate growth. One of them will 

be—and I want to get on the Tax Code. One of them will be by 

incenting capital investment, improving productivity, the things 

that you can do by maybe clearing up or eliminating some of the 

distortions in the Tax Code. 

But we also have to be mindful, to the extent that the regulatory 

burden exceeds what we think is minimally necessary to ensure 

compliance with areas that represent risk, then that is also capital—or that is potential capital that could be deployed to productivity rather than to maybe overly burdensome regulations. Would 

you agree with that? 

Ms. YELLEN. Yeah, I think all regulators should be attentive to 

burdens and seek ways to minimize them. 

Senator TILLIS. And if I have time, I am going to go back to 

some—you have been very generous with your time, by the way. I 

should thank you for taking the time to meet with my office and 

responding to questions that we have submitted after Committee 

meetings. I appreciate it. I have enjoyed the discussions very much. 

But could you drill—tax reform is something that we spent a lot 

of time on, not in our first 2 years in North Carolina, because we 

sought to relieve regulatory burdens first to produce economic activity that would ultimately fund real tax reform. But here we are 

going to move to tax reform, I hope fairly soon. 

You mentioned that there are certain distortions in the Tax 

Code, if they were dealt with properly, would probably have a positive impact on productivity or economic activity. At a high level— 

I am not asking you to do our job by creating an agenda for tax 

reform, but at a high level, could you give me some insights into 

the areas that you think are probably worthy of the most scrutiny 

as we go forward with tax reform? 

Ms. YELLEN. So, again, this is an area I really want to be careful 

not to wade into and give you any type of detailed advice. But I 

would say that there is general agreement that there are distortions in the corporate Tax Code and opportunities for improvement. 

Senator TILLIS. Now, I want to go back in my remaining time. 

This is something that Senator Rounds touched on and I think 

probably other Members did before I came here. I had two competing committees, so I am sorry I was not here for your full testimony. But if you imagine that, you know, all the tools that you currently enjoy post-Dodd–Frank, so stress tests, enhanced prudential 

standards, living wills for banks, for the largest banks, if they had 

been in place before the crisis, do you think that the crisis that we 

have experienced would have been substantially—that the scale of 

the crisis would have been substantially reduced? 

Ms. YELLEN. So that is a difficult judgment to render, but I do 

think we have much stronger capital, much stronger liquidity. I 

think it is important to recognize prior to the crisis we had many 

significant, large, stand-alone investment banks that were very 

highly leveraged. Now they are part of—— 

31 

Senator TILLIS. Yeah, and now, because I try to develop a reputation for being close to on time, I want to close because I got a great 

response in the meeting, in our personal meeting, so I will not ask 

you to repeat it. But what I would like to see are right-sized applications of these regulations. I would like to see rational thought 

placed in how these regimes are applied to institutions, not based 

on some arbitrary number of, say, $50 billion today or $250 billion, 

whatever the number. It seems to me that that should only be a 

data point, and the nature of the businesses and the risks that 

they represent should be the driving factor in going forward and 

right-sizing these regulations, some of which I think are absolutely 

essential. Do you agree? 

Ms. YELLEN. I do agree with that, and as I said in response to 

an earlier question, one way that Congress could approach this is 

to increase these dollar cutoffs—— 

Senator TILLIS. Yeah, but—— 

Ms. YELLEN. An alternative is to look at individual organizations 

and the factors that determine their riskiness—— 

Senator TILLIS. I would like to get—— 

Ms. YELLEN. ——and to take a different—— 

Senator TILLIS. I think one of the things we will do is probably 

maybe put more meaning to that, because I think everybody agrees 

in the abstract, but we really need to get to a point to where you 

regulate based on the risk of the specifics of a targeted business, 

instead of us feeling like we index—let us say we raise the number 

from $50 billion to whatever, and then index it over time, we could 

pretend that we are done. But I think we are missing the opportunity to make sure your resources are focused on the areas that 

represent the most risk and away from the businesses that do not. 

Thank you, Mr. Chair. Sorry I went over. 

Chairman CRAPO. Thank you. 

Senator Kennedy. 

Senator KENNEDY. Thank you for your service, Madam Chair. 

Ms. YELLEN. Thank you. 

Senator KENNEDY. I think I read the last couple of days that 

first-quarter growth had been readjusted to 1.4 percent. Does that 

sound right? 

Ms. YELLEN. Yes. 

Senator KENNEDY. If you had unfettered discretion, what would 

you do to improve on that? 

Ms. YELLEN. Well, growth is variable from quarter to quarter, 

and we expect significantly stronger growth in the second quarter. 

So I would certainly, in looking at the performance of the economy, 

smooth through the volatility. But doing that, we have an economy 

that has grown over the last number of years by about 2 percent 

per year, and 2 percent has been sufficient to create a very large 

number of jobs and a tighter labor market. 

Of course, it is good to have more jobs and a tighter labor market, but the fact that that could be accomplished with 2 percent 

economic growth points to what is very disappointing, namely, the 

potential of the U.S. economy to grow is very low. I believe CBO 

and our committee estimates that the economy’s longer-run potential to grow is currently under 2 percent, and—— 

32 

Senator KENNEDY. OK. But my question, Madam Chair—I apologize for interrupting. My question is: If you had unfettered discretion and were averaging 2 percent growth, and you wanted to get 

as close to 3 percent as you could, which would be considered normal before 2008, if you had unfettered discretion, what would you 

do? 

Ms. YELLEN. Well, this is really not a job for the Federal Reserve. 

It is a job for Congress and the Administration. 

Senator KENNEDY. I am asking for your advice. 

Ms. YELLEN. My advice would be to focus on all of those factors 

that determine productivity growth, and that pertains to tax reform and the efficiency with which the economy operates. I would 

focus on training, on education, the quality of human capital in this 

economy. I would focus on investment, both public and private. I 

would focus on policies that impact the pace of technological change 

and research and development. And there are a wide range of policies that bear on everything in my list. And so it is that set of 

channels that I think is important in boosting the economy’s potential to grow. 

Senator KENNEDY. OK. Did we make a mistake moving away 

from Glass–Steagall? 

Ms. YELLEN. I do not believe that Glass–Steagall was responsible 

for the financial crisis, so I do not see that as a major issue that 

was responsible for the financial difficulties. 

Senator KENNEDY. Did our move away from it contribute at all, 

or was it just irrelevant, in your judgment? 

Ms. YELLEN. Well, look, the largest distress was suffered at 

stand-alone investment banks like Bear Stearns and Lehman. You 

know, it was a product of Glass–Steagall. The fact that those investment banks are now—all major investment banks are part of 

bank holding companies and subject to stronger capital regulation 

is an important safeguard. 

Senator KENNEDY. OK. Has the Volcker Rule worked? 

Ms. YELLEN. The Volcker Rule was designed to stop proprietary 

trading in banking organizations. That is a goal with which I 

agree, and it was intended to permit market making. The implementation of it has been very complex and burdensome. We have 

suggested that community banks be exempt from it entirely, 

and—— 

Senator KENNEDY. Should we get rid of it? 

Ms. YELLEN. I would not get rid of it, and I believe the Treasury 

report suggests maintaining the restriction on proprietary trading 

in depository institutions. So I would not get rid of it, but I would 

look for ways to simplify it. 

Senator KENNEDY. OK. Last question, quickly. Would you accept 

a reappointment? 

Ms. YELLEN. Excuse me? 

Senator KENNEDY. Would you accept a reappointment as Chair? 

Ms. YELLEN. So it is something that I really do not have anything to say about at this time. I am really focused on carrying out 

the responsibilities that Congress has assigned to us and have not 

really decided that issue. 

Senator KENNEDY. Thank you for your service, Madam Chair. 

Ms. YELLEN. Thank you. 

33 

Senator KENNEDY. Thank you, Mr. Chairman. 

Chairman CRAPO. Thank you. And, Chair Yellen, we are approaching 11:30, which was the stop time I had hoped we would 

be able to meet. Senator Brown has asked for one more question. 

Ms. YELLEN. OK. 

Chairman CRAPO. And he certainly is welcome to do so. 

Senator BROWN. Thank you. And while this was not my intent, 

the first part, if you are reappointed, I would be happy to join Senator Kennedy in supporting your reappointment. 

Ms. YELLEN. Thank you, Senator. 

Senator BROWN. I am not sure that he said that, but I think he 

did. Thank you. And I am very mindful of the Chairman’s 11:30 

meeting that the Republican conference has, and I am grateful for 

his giving me this one series of last questions, which will not take 

the whole 5 minutes. 

Dodd–Frank required the CFPB to study forced arbitration, as 

you know, and to make a rule protecting consumers from the practice of doing so would be in the public interest. In 2015 CFPB publicly released a comprehensive study of the impact of forced arbitration agreements on consumers. The Bureau released a proposed 

rule limiting the use of forced arbitration in consumer contracts. As 

you know, on Monday it released the final rule. 

During that time CFPB surveyed, consulted with experts at prudential regulators like you. If any of your—a couple of questions 

and then one brief comment. If any of your staff had safety and 

soundness concerns about this rule, do you think they would have 

raised those concerns with the CFPB during the rulemaking process? 

Ms. YELLEN. So I know my staff consulted, and I assume that 

they would have, but I am not certain just what those consultations were. 

Senator BROWN. OK. And one more question. If the rule were 

likely to impact the safety of the U.S. banking system, do you think 

it would be unusual that no staff of any of the prudential regulators would raise concerns about the rulemaking process? 

Ms. YELLEN. I assume that they might well have. 

Senator BROWN. OK. That is why I thought it was unusual, and 

I was surprised to see Acting Comptroller Noreika, understanding 

his short time there and short horizon to stay there, that he raised 

issues with this rule so late in a 2-year-long process and mentioned 

safety and soundness. And I think the Director, Director Cordray, 

clearly explained the efforts that CFPB has made to consider input 

from safety and soundness regulators. 

So, Mr. Chairman, I would just close with asking unanimous consent to enter Mr. Noreika’s letter and Mr. Cordray’s letter on this 

issue into the record. 

Chairman CRAPO. Without objection. 

Senator BROWN. Thank you. 

Chairman CRAPO. And if I had known you were going to go into 

the arbitration rule, I might have rethought going back into that 

issue. 

[Laughter.] 

Senator BROWN. And the CRA, right? 

34 

Chairman CRAPO. That is right. We will discuss it further probably. 

Chair Yellen, thank you again for being here with us today, and 

we always appreciate the opportunity we have to discuss these 

issues with you. 

For Senators who wish to submit questions for the record, Thursday, July 20th, is the due date, and I encourage you, Chair Yellen, 

if you receive questions, to please respond promptly. 

And, with that, this hearing is adjourned. 

Ms. YELLEN. Thank you, Chair Crapo. 

Chairman CRAPO. Thank you. 

[Whereupon, at 11:30 a.m., the hearing was adjourned.] 

[Prepared statements, responses to written questions, and additional material supplied for the record follow:] 

35 

PREPARED STATEMENT OF JANET L. YELLEN 

CHAIR, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

JULY 13, 2017 

Chairman Crapo, Ranking Member Brown, and other Members of the Committee, 

I am pleased to present the Federal Reserve’s semiannual Monetary Policy Report 

to the Congress. In my remarks today I will briefly discuss the current economic 

situation and outlook before turning to monetary policy. 

Current Economic Situation and Outlook 

Since my appearance before this Committee in February, the labor market has 

continued to strengthen. Job gains have averaged 180,000 per month so far this 

year, down only slightly from the average in 2016 and still well above the pace we 

estimate would be sufficient, on average, to provide jobs for new entrants to the 

labor force. Indeed, the unemployment rate has fallen about 1⁄4 percentage point 

since the start of the year, and, at 4.4 percent in June, is 51⁄2 percentage points 

below its peak in 2010 and modestly below the median of Federal Open Market 

Committee (FOMC) participants’ assessments of its longer-run normal level. The 

labor force participation rate has changed little, on net, this year—another indication of improving conditions in the jobs market, given the demographically driven 

downward trend in this series. A broader measure of labor market slack that includes workers marginally attached to the labor force and those working part time 

who would prefer full-time work has also fallen this year and is now nearly as low 

as it was just before the recession. It is also encouraging that jobless rates have continued to decline for most major demographic groups, including for African Americans and Hispanics. However, as before the recession, unemployment rates for these 

minority groups remain higher than for the Nation overall. 

Meanwhile, the economy appears to have grown at a moderate pace, on average, 

so far this year. Although inflation-adjusted gross domestic product is currently estimated to have increased at an annual rate of only 11⁄2 percent in the first quarter, 

more-recent indicators suggest that growth rebounded in the second quarter. In particular, growth in household spending, which was weak earlier in the year, has 

picked up in recent months and continues to be supported by job gains, rising household wealth, and favorable consumer sentiment. In addition, business fixed investment has turned up this year after having been soft last year. And a strengthening 

in economic growth abroad has provided important support for U.S. manufacturing 

production and exports. The housing market has continued to recover gradually, 

aided by the ongoing improvement in the labor market and mortgage rates that, although up somewhat from a year ago, remain at relatively low levels. 

With regard to inflation, overall consumer prices, as measured by the price index 

for personal consumption expenditures, increased 1.4 percent over the 12 months 

ending in May, up from about 1 percent a year ago but a little lower than earlier 

this year. Core inflation, which excludes energy and food prices, has also edged 

down in recent months and was 1.4 percent in May, a couple of tenths below the 

year-earlier reading. It appears that the recent lower readings on inflation are partly the result of a few unusual reductions in certain categories of prices; these reductions will hold 12-month inflation down until they drop out of the calculation. Nevertheless, with inflation continuing to run below the committee’s 2 percent longerrun objective, the FOMC indicated in its June statement that it intends to carefully 

monitor actual and expected progress toward our symmetric inflation goal. 

Looking ahead, my colleagues on the FOMC and I expect that, with further gradual adjustments in the stance of monetary policy, the economy will continue to expand at a moderate pace over the next couple of years, with the job market 

strengthening somewhat further and inflation rising to 2 percent. This judgment reflects our view that monetary policy remains accommodative. Ongoing job gains 

should continue to support the growth of incomes and, therefore, consumer spending; global economic growth should support further gains in U.S. exports; and favorable financial conditions, coupled with the prospect of continued gains in domestic 

and foreign spending and the ongoing recovery in drilling activity, should continue 

to support business investment. These developments should increase resource utilization somewhat further, thereby fostering a stronger pace of wage and price increases. Of course, considerable uncertainty always attends the economic outlook. There 

is, for example, uncertainty about when—and how much—inflation will respond to 

tightening resource utilization. Possible changes in fiscal and other Government 

policies here in the United States represent another source of uncertainty. In addition, although the prospects for the global economy appear to have improved somewhat this year, a number of our trading partners continue to confront economic 

36 

challenges. At present, I see roughly equal odds that the U.S. economy’s performance will be somewhat stronger or somewhat less strong than we currently project. 

Monetary Policy 

I will now turn to monetary policy. The FOMC seeks to foster maximum employment and price stability, as required by law. Over the first half of 2017, the committee continued to gradually reduce the amount of monetary policy accommodation. 

Specifically, the FOMC raised the target range for the Federal funds rate by 1⁄4 percentage point at both its March and June meetings, bringing the target to a range 

of 1 to 11⁄4 percent. In doing so, the committee recognized the considerable progress 

the economy had made—and is expected to continue to make—toward our mandated 

objectives. 

The committee continues to expect that the evolution of the economy will warrant 

gradual increases in the Federal funds rate over time to achieve and maintain maximum employment and stable prices. That expectation is based on our view that the 

Federal funds rate remains somewhat below its neutral level—that is, the level of 

the Federal funds rate that is neither expansionary nor contractionary and keeps 

the economy operating on an even keel. Because the neutral rate is currently quite 

low by historical standards, the Federal funds rate would not have to rise all that 

much further to get to a neutral policy stance. But because we also anticipate that 

the factors that are currently holding down the neutral rate will diminish somewhat 

over time, additional gradual rate hikes are likely to be appropriate over the next 

few years to sustain the economic expansion and return inflation to our 2 percent 

goal. Even so, the committee continues to anticipate that the longer-run neutral 

level of the Federal funds rate is likely to remain below levels that prevailed in previous decades. 

As I noted earlier, the economic outlook is always subject to considerable uncertainty, and monetary policy is not on a preset course. FOMC participants will adjust 

their assessments of the appropriate path for the Federal funds rate in response to 

changes to their economic outlooks and to their judgments of the associated risks 

as informed by incoming data. In this regard, as we noted in the FOMC statement 

last month, inflation continues to run below our 2 percent objective and has declined 

recently; the committee will be monitoring inflation developments closely in the 

months ahead. 

In evaluating the stance of monetary policy, the FOMC routinely consults monetary policy rules that connect prescriptions for the policy rate with variables associated with our mandated objectives. However, such prescriptions cannot be applied 

in a mechanical way; their use requires careful judgments about the choice and 

measurement of the inputs into these rules, as well as the implications of the many 

considerations these rules do not take into account. I would like to note the discussion of simple monetary policy rules and their role in the Federal Reserve’s policy 

process that appears in our current Monetary Policy Report. 

Balance Sheet Normalization 

Let me now turn to our balance sheet. Last month the FOMC augmented its Policy Normalization Principles and Plans by providing additional details on the process that we will follow in normalizing the size of our balance sheet. The committee 

intends to gradually reduce the Federal Reserve’s securities holdings by decreasing 

its reinvestment of the principal payments it receives from the securities held in the 

System Open Market Account. Specifically, such payments will be reinvested only 

to the extent that they exceed gradually rising caps. Initially, these caps will be set 

at relatively low levels to limit the volume of securities that private investors will 

have to absorb. The committee currently expects that, provided the economy evolves 

broadly as anticipated, it will likely begin to implement the program this year. 

Once we start to reduce our reinvestments, our securities holdings will gradually 

decline, as will the supply of reserve balances in the banking system. The longerrun normal level of reserve balances will depend on a number of as-yet-unknown 

factors, including the banking system’s future demand for reserves and the committee’s future decisions about how to implement monetary policy most efficiently and 

effectively. The committee currently anticipates reducing the quantity of reserve 

balances to a level that is appreciably below recent levels but larger than before the 

financial crisis. 

Finally, the committee affirmed in June that changing the target range for the 

Federal funds rate is our primary means of adjusting the stance of monetary policy. 

In other words, we do not intend to use the balance sheet as an active tool for monetary policy in normal times. However, the committee would be prepared to resume 

reinvestments if a material deterioration in the economic outlook were to warrant 

a sizable reduction in the Federal funds rate. More generally, the committee would 

37 

be prepared to use its full range of tools, including altering the size and composition 

of its balance sheet, if future economic conditions were to warrant a more accommodative monetary policy than can be achieved solely by reducing the Federal funds 

rate. 

Thank you. I would be pleased to take your questions. 

38 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR BROWN 

FROM JANET L. YELLEN 

Q.1. I believe the full employment part of the dual mandate has 

served the economy well, including reducing disparities in labor 

market data. 

Can you talk about why the full employment mandate is so important and what would be the impact on groups that have traditionally been disadvantaged in the labor market if the mandate 

were eliminated or altered? 

A.1. Congress set forth the mandate for monetary policy in the 

Federal Reserve Act, which directs the Federal Reserve Board 

(Board) to conduct monetary policy so as to promote maximum employment and stable prices. My colleagues and I on the Federal 

Open Market Committee (FOMC) are fully committed to pursuing 

the goals that Congress has given us. Both objectives of the dual 

mandate are important in promoting the economic well-being of the 

United States. Furthermore, the dual mandate has served the 

country well. For the past quarter century or so, inflation has been 

generally low and stable, and while the Great Recession severely 

impacted households and businesses, the Board had a clear mandate to counteract the profound economic weakness of that time 

and exercised that mandate forcefully. As a result of policies implemented by the Board, unemployment has declined substantially 

and deflation has been avoided. 

When the economy softens, all major demographic groups tend to 

experience higher rates of unemployment. However, a marked 

characteristic of recent business cycles is that groups that have traditionally been disadvantaged in the labor market have tended to 

experience a higher-amplitude version of the unemployment experience of whites. For example, during the period around the Great 

Recession, the unemployment rate for whites increased from about 

4 percent to about 9 percent. At roughly the same time, the unemployment rate for blacks or African Americans increased from 

about 8 percent to a little over 16 percent, a larger increase that 

started from a higher level. Similarly, the unemployment rate for 

Hispanics or Latinos increased from about 5 percent to nearly 13 

percent. From the worst time of the Great Recession, all three 

groups have enjoyed substantial improvements in their respective 

unemployment rates. Most recently, these rates have been in the 

neighborhood of 33⁄4 percent for whites, 71⁄2 percent for blacks, and 

5 percent for Hispanics. It is important to note that all three rates 

have come down substantially, and that the rates for blacks and 

Hispanics have declined by more than the rate for whites in recent 

years. However, it is also important to point out that the rates for 

blacks and Hispanics remain well above the rate for whites. Overall, the relative labor market experience of these groups has not 

improved in recent years, and that is a matter of considerable concern. Still, an important consequence of success in achieving the 

maximum employment objective of the dual mandate is that the 

benefits of a strong economy are shared widely across the individuals and households that make up our Nation. 

Q.2. I think the Federal Reserve Board and the Federal Reserve 

Bank of Atlanta made a great choice earlier this year of Raphael 

39 

1https://www.federalreserve.gov/pubs/feds/2008/200860/200860pap.pdf 

Bostic as the new President of the Atlanta Fed. The Richmond Fed 

is currently undergoing a search for their President. Are you satisfied with the search process currently underway and confident that 

it will result in a diverse pool of candidates for consideration by the 

Richmond Federal Reserve Bank Board of Directors and the Federal Reserve Board of Governors? 

A.2. As you know, I have repeatedly expressed my personal commitment, and our institutional commitment, to advancing the objectives of diversity and inclusion throughout our organization, including at the level of presidents and other senior leadership. Our 

searches for candidates for Reserve Bank presidents are planned 

and conducted with a particular emphasis placed on identifying 

highly qualified candidates from diverse personal, academic, and 

professional backgrounds. 

As you noted, the search for the next president of the Federal Reserve Bank of Richmond (Richmond) is currently underway. The 

Reserve Bank’s search committee, which is comprised of directors 

who are not affiliated with commercial banks or other entities supervised by the Board, has engaged a highly regarded, national executive search firm with a strong track record in identifying highly 

qualified and diverse candidate pools for executive positions to assist in the search process. 

As we did during the Federal Reserve Bank of Atlanta search, 

and consistent with the Board of Governors’ responsibilities under 

the Federal Reserve Act, my colleagues, typically represented by 

the Chair of the Board’s Committee on Federal Reserve Bank Affairs, are following the Richmond search process closely at every 

stage. We have emphasized to the executive search firm and the 

search committee the importance that the Board attaches to the 

identification of as large a pool as possible of highly qualified candidates from diverse personal, academic, and professional backgrounds. 

Indeed I am confident in the strength of these processes, and in 

the commitment of my colleagues here at the Board and in Richmond to our shared objectives for the search. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR SASSE 

FROM JANET L. YELLEN 

Q.1. Our financial system has become increasingly consolidated as 

community banks and credit unions either close their doors or 

merge with larger institutions. 

Are you concerned about this pattern? Why? 

What services can these smaller institutions provide that larger 

institutions cannot provide? 

A.1. The Federal Reserve Board (Board) recognizes the vital role 

community banks play in local economies and closely monitors consolidation trends at community banks. The banking industry has 

been consolidating at a relatively steady pace for more than 30 

years. 1 Despite this, community banks (defined as banks with assets totaling less than $10 billion) have continued to play a vital 

role in local economies and serve as a key source of financing to 

40 

small businesses and small farms. While community banks accounted for 20 percent of all insured depository institution assets 

at year-end 2016, they accounted for nearly 50 percent of all dollars 

lent to small businesses by insured depositories and 88 percent of 

all dollars lent to small farms. The Board believes it is important 

to maintain a diversified and competitive banking industry that 

comprises banking organizations of many sizes and specializations, 

including a healthy community banking segment. 

Research conducted over many years has concluded that community banks provide several distinct advantages to their customers 

compared to larger banks. For example, given their smaller size 

and less complex organizational structure, community banks are 

often able to respond with greater agility to lending requests than 

their large national competitors. In addition, reflecting their close 

ties to the communities they serve and their detailed knowledge of 

their customers, community banks are able to provide 

customization and flexibility to meet the needs of their local communities and small business/farm customers that larger banks are 

less likely to provide. Community banks are particularly important 

for rural communities, where the closing of a bank can be associated with a material decline in local economic activity. 

Q.2. As you know, the CFPB may be moving forward on a rulemaking for Section 1071 of Dodd–Frank, which grants the CFPB 

the authority to collect small business loan data. I’ve heard some 

concerns that implementing Section 1071 could impose substantial 

costs on small financial institutions and even constrict small business lending. 

Are you concerned that a Section 1071 rulemaking could hurt 

small business access to credit? 

A.2. Section 1071 of the Dodd–Frank Wall Street Reform and Consumer Protection Act (Dodd–Frank Act) amended the Equal Credit 

Opportunity Act to require that lenders collect information on credit applications and outcomes for small businesses, and womenowned and minority-owned businesses. The purpose is to facilitate 

enforcement of the fair lending laws, and allow communities, governmental entities, and creditors to identify business and community development needs and opportunities. 

Although the Consumer Financial Protection Bureau (CFPB) 

must issue rules to implement section 1071 for most creditors, the 

Board is responsible for issuing rules for certain motor vehicle dealers that use installment contracts to finance vehicle purchases by 

small businesses. 

Because the CFPB is still considering how to implement the law 

and has not yet issued a proposed rule, the scope of the rule in 

terms of the type of creditors, transactions, or data that will be covered has not been established. We expect the rulemaking process 

to include consideration of the relative costs and benefits of the 

proposed rule to assess its impact. 

CFPB and Board staff have recently started to coordinate efforts 

to conduct additional outreach and gather information to assist in 

developing their regulatory proposals. In May, 2017, the CFPB 

published a ‘‘Request for Information’’ outlining the major issues on 

which the CFPB is seeking data and information from stakeholders 

41 

2https://www.bls.gov/news.release/jolts.htm 

that will be affected by the rules. The CFPB is also required to conduct a small business review panel pursuant to the Small Business 

Regulatory Enforcement Fairness Act. The panel would meet with 

representatives of small businesses that can provide feedback on 

the impact of the proposed regulations and on regulatory options 

and alternatives that might minimize the impact. 

Q.3. Has the Federal Reserve coordinated with the CFPB to ensure 

that implementing these requirements does not constrict small 

business access to credit? 

A.3. The CFPB has primary rule-writing authority and must issue 

rules to implement section 1071 for most creditors. The Board is 

responsible for issuing rules that would apply to certain motor vehicle dealers that originate installment contracts to finance vehicle 

purchases by small businesses, and routinely sell or assign the contracts to a third party. 

The Board believes that the two agencies should jointly develop 

rules that use consistent definitions and standards to ensure data 

are collected and reported uniformly, whether the loans are made 

by depository institutions, motor vehicle dealers, or another type of 

creditor. The Board will also participate in the CFPB consultation 

process, along with the other prudential regulators, that is mandated for all CFPB rulemakings under section 1022 of the Dodd– 

Frank Act. The CFPB has yet to commence its rulemaking consultation process. 

In May 2017, the CFPB held a public field hearing in Los Angeles on small business lending and published a ‘‘Request for Information’’ outlining the major issues on which the CFPB seeks data 

and information from stakeholders that will be affected by the 

rules. This information is expected to assist the CFPB and the 

Board as they consider the scope of their proposed rules. In addition, CFPB and Board staff have recently started to coordinate efforts on planning joint outreach efforts to gather additional information. 

Q.4. I am very disturbed by the most recently available data on job 

openings and hires. As you know there were a record number of job 

openings, 6 million, while job hires fell to 5.1 million. This problem 

manifests itself in Nebraska as many businesses tell me that they 

have extreme difficulties finding and retaining talent. 

Does this mismatch between job openings and job hires represent 

a new normal? Or will economic growth eventually reduce this mismatch over time, without any major structural changes to our economy? 

A.4. Data from the Job Openings and Labor Turnover Survey 2

show that the ratio of job openings to hires has moved up since the 

end of Great Recession and has surpassed its pre-recession level. 

There are likely several factors that are responsible for the increase in job openings relative to hiring: 

• Most of the increase likely reflects typical cyclical behavior of 

the labor market, that is, the ratio of vacancies to hires goes 

up when the economy improves and down when the economy 

slows. In other words, in tightening labor markets there is an 

42 

increasing scarcity of job seekers overall, which may eventually 

impede firms’ ability to fill job openings. 

• Another possibility is that there have been changes in the 

ways that firms post job vacancies and search for workers. For 

example, online recruitment and job search have become increasingly popular, making it cheaper for firms to post job vacancies and possibly resulting in an elevated level of vacancies 

relative to earlier times. 

• A third possibility is the mismatch between the skills that job 

seekers have and the skills that employers want. For example, 

such mismatch might arise because firms are less willing to 

hire those who have suffered long spells of non-employment 

during and after the Great Recession because firms perceive 

that these potential workers have lost job-related skills (or 

their skills have become otherwise obsolete). Alternatively, 

there may be a mismatch between low-skill workers and highskill jobs, or a mismatch between locations where unemployed 

job seekers reside and where workers are in greatest demand. 

If this third type of mismatch were a significant concern for the 

broader labor market, we would eventually expect to observe a substantial rise in wages as firms compete to hire workers with scarce 

skills. To date, however, we have not seen wage acceleration in the 

aggregate that exceeds what might be expected given the historical 

relationship between wage growth and other economic conditions. 

That said, in the Federal Reserve’s Beige Book a number of respondents noted worker shortages at all skill levels and a couple 

Districts reported that labor shortages were beginning to push up 

wages. 

Significant mismatch, if it exists, may be alleviated somewhat if 

aggregate labor market conditions remain favorable. For example, 

it may induce some workers who left the labor force out of discouragement to re-enter, some of whom may have skills matching those 

sought by firms. It may also encourage firms to consider less qualified applicants, perhaps by offering such workers additional training or education on the job. 

Q.5. What are the most prominent causes of this mismatch? 

A.5. As described above, an elevated level ratio of vacancies to 

hires does not necessarily indicate the emergence of significant 

mismatch, since factors such as advances in recruiting technology 

and usual cyclical improvement in the labor market may have also 

led to the increase. Nonetheless, it may also reflect specific factors, 

such as the increased use of information technology in many industries and jobs, leading to mismatch between the skills and attributes demanded by firms and the available job seekers. 

Q.6. In what industries is this mismatch most prominent? 

A.6. The ratio of vacancies to hires varies substantially across industries, although this need not indicate varying degrees of mismatch and may instead reflect industry differences in hiring conventions. (For example, for a given level of vacancies, firms hire 

fewer workers in the health and education sector on average than 

they do in the construction sector.) Even taking these differences 

into account, the ratio of vacancies to hires appears to have continVerDate Nov 24 2008 12:26 Dec 15, 2017 Jkt 046629 PO 00000 Frm 00046 Fmt 6602 Sfmt 6602 L:\HEARINGS 2017\07-13 ZDISTILLER\71317.TXT JASON
43 

3https://www.conference-board.org/labor-shortages2016/index.cfm?id=38314 

ued to increase in industries such as health care and education, 

professional and business services, and trade, transportation, and 

utilities. Consistent with this observation, some firms responding 

to the most recent Labor Shortage Index survey from The Conference Board 3 reported anticipating there would not be a sufficiently qualified supply of workers in ‘‘management, business, and 

financial service occupations’’ or ‘‘professional and related services 

occupations.’’ That said, we have not seen significant wage growth 

in most of these sectors relative to other sectors, suggesting that 

factors other than mismatch may be boosting the ratio of vacancies 

to hires in these industries. 

Q.7. What demographic groups are most hurt by this mismatch? 

A.7. It is difficult to assess with any precision which demographic 

groups are disproportionately affected by mismatch due to data 

limitations. That said, there are some groups whose employment 

rates have declined substantially relative to other groups, which 

may represent weak labor demand relative to other groups and 

possibly owe, in part, to mismatch. For example, the employment 

rate for prime-age males (especially less-educated prime-age males) 

has declined more steeply than other groups, which could be partially because manufacturing (which disproportionately employed 

prime-age men) has contracted, while newly created jobs have been 

in occupations with different skills requirements or in different 

areas of the country. 

Q.8. Today, many workers, including those late in their career, are 

forced to retool their skills to find a job in new fields. Can our 

economy’s current ecosystem of education and job remaining programs adequately respond to this challenge? If not, what changes 

could better address this issue? 

A.8. Some job retraining and education programs, such as 

WorkAdvance and Apprenticeship Carolina, have had success lately, though these types of programs are especially helpful for workers earlier in their career whose skills can more easily be matched 

to growing labor demand. In general, an expansion of career and 

technical education programs and apprenticeships may be effective 

in helping workers gain valuable skills and obtain a foothold in a 

labor market that increasingly requires technical proficiency. In addition, promoting entrepreneurship through programs that equip 

people with the management skills and knowledge they need to 

start and operate a successful small business could also be a fruitful approach for some workers. 

Q.9. I am concerned about the impact of our recent trade disputes 

on our economy, particularly with agriculture. 

How dependent is the agricultural economy on exports with other 

countries? 

A.9. As reported by the U.S. Department of Agriculture, the export 

share of U.S. agricultural production has averaged about 20 percent in recent history. However, some specific agricultural products 

have had higher export shares. For example, cotton and tree nuts 

44 

4https://www.ers.usda.gov/data-products/chart-gallery/gallery/chart-detail/?chartid=58396 

5Prusa, Thomas J., ‘‘The Trade Effects of U.S. Anti-Dumping Actions’’, NBER Working Paper 

No. 5440, January 1996. 

have historically had export shares around 75 percent, while rice, 

wheat, and soybeans have had export shares around 50 percent. 4

Q.10. U.S. corn exports to Mexico from January through May of 

this year are down by 7 percent compared to last year. Unfortunately, this may be due to reported efforts by Mexico to reduce corn 

imports from the United States, including by opening up trade with 

Brazil or Argentina. Are there historic examples of countries exploring other import markets in response to trade disputes? 

A.10. Although there has been much reporting of efforts to diversify Mexico’s supply, actual Government policy actions have not 

been implemented. In addition, U.S. corn exports to Mexico, after 

being weak earlier in the year, have stepped up in recent months. 

Corn exports to Mexico are now down only 1 percent relative to 

2016. 

That being said, Brazil and Argentina are major corn exporters, 

who compete worldwide with U.S. exporters for market share. Because of transportation cost advantages, Mexico currently buys 

most of its imported corn from the United States. If Mexico were 

to increase trade barriers, such as tariffs, trade diversion would 

likely occur. For example, when the United States has historically 

imposed tariffs on imports from one country, U.S. imports from 

other countries have increased (see Prusa 1996). 5 However, U.S. 

exporters would likely find other international markets, albeit less 

profitable for their corn. 

Q.11. How significant is the risk that NAFTA renegotiations will 

drive other countries to explore import markets, including with agriculture? 

A.11. Because there are fixed costs in establishing trading relationships, existing trade relationships are likely to continue even if 

North American Free Trade Agreement renegotiations cause increased uncertainty; However, the uncertainty could lead foreigners 

to consider diversifying their sources of imports. As such, U.S. producers will likely continue to export to Mexico and Canada, but 

U.S. producers may lose some sales as foreigners diversify their 

sources. In the short run, U.S. producers may find it hard to make 

up lost sales elsewhere, because it takes time to find new customers. However, in the long run, U.S. producers would find other 

foreign customers to buy their products, although the costs of 

transporting products to these markets would likely be higher and 

the prices received may be lower. 

Q.12. The Trump administration is considering imposing new trade 

barriers on steel imports. Some have argued that other countries 

typically target retaliatory trade measures at the agricultural sector. Are there historical instances where this has occurred? If so, 

how strong were these measures? 

A.12. When the U.S. Government levied tariffs on steel imports in 

2002, the European Union initiated steps to retaliate on $2.2 billion of U.S. exports of products such as vegetables, fruits, nuts, motorcycles, textiles, paper products, and furniture. The United States 

45 

6Zahniser, Steven, Tom Hertz, and Monica Argoti, ‘‘Quantify the Effects of Mexico’s Retaliatory Tariffs on Selected U.S. Agricultural Exports’’, Applied Economic Perspectives and Policy, 

Vol. 38, No. 1, 2016, pp. 93–112. 

withdrew these steel tariffs in 2003 before the European Union 

went through with its retaliatory tariffs. 

As another example, in 2009, Mexico retaliated against the 

United States for the cancellation of the cross-border long-haul 

trucking program. Mexico raised tariffs on around 90 products, including agricultural products, with affected exports valued at 

around $2 billion. In 2011, retaliatory duties were removed after 

the United States agreed to allow Mexican trucks to operate in the 

U.S. as part of a pilot program. 

Q.13. If there have been retaliatory measures in the past, how did 

these measures hurt the agricultural economy? 

A.13. As estimated in Zahniser et al. (2016), 6 the Mexican tariffs 

reduced U.S. sales of targeted agricultural products by 22 percent, 

a value of $984 million. Although they do not find that reduced exports to Mexico were offset by increased sales of these same goods 

to other countries, they look over only a 2-year horizon, which may 

be too short a time to establish new trading relationships. 

Q.14. Assume that similar agricultural retaliatory trade measures 

are imposed in response to new steel trade barriers. How would 

these measures impact the agricultural economy? 

A.14. Similar to question (c), there may be lost agricultural sales 

in the short run. Eventually, U.S. agricultural producers likely 

would find other customers. 

Q.15. Many economists point to weak productivity growth as one 

of the major contributors to slower economic growth overall. 

Do you agree with this assessment? 

A.15. Yes. Economic growth reflects contributions from both 

changes in output per hour, or productivity, and changes in the 

total number of hours worked in the economy. The step-down in 

business sector productivity growth in recent years has been substantial: productivity growth averaged 11⁄2 percent in the 10-year 

period ending in 2016; over the previous 10 years, its average was 

21⁄2 percent. That being said, a secular decline in the growth of 

hours worked has reduced economic growth as well. 

Q.16. Do you believe productivity measurements accurately account 

for new technology? 

A.16. Most of the challenge in measuring productivity, especially 

with regard to new technology, is in measuring prices. For example, when ‘‘big box’’ retailers became prevalent in the 1980s and 

1990s, they offered many items at lower prices than conventional 

stores. These lower prices were due in part to improvements in the 

technology used by retailers to manage their supply chain, but arguably also reflected changes in quality of service. Official statistics 

struggled with the challenge of how much of the big-box discount 

to attribute to a different shopping experience and how much to 

treat as a productivity improvement. 

However, properly measuring the effects of new technology has 

always been a significant challenge. More recently, the same price 

46 

measurement challenge mentioned above has emerged with the 

shift in the retail sector toward e-commerce. More generally, economists have not found that measurement problems have gotten 

worse, or that economic activity has shifted to more poorly measured sectors in a way that would suggest that recent readings on 

productivity are less credible than those in the past. Thus, there 

is no compelling evidence that the recent productivity slowdown is 

simply an artifact of problems measuring new technology. However, this is an area of active research, and substantial uncertainty 

remains. 

Q.17. How does current policy impede productivity growth? 

A.17. Contributors to productivity growth include (1) technological 

innovation, (2) human capital, (3) business capital, and (4) reallocation (matching labor and capital resources to their best employment). Government policy can affect productivity through all four 

of these channels. 

It would be inappropriate for the Federal Reserve to criticize or 

endorse specific Government policies for their effect on productivity, but the most constructive policy interventions address failures of the market system to guide resources to their best use. For 

example, practical technological innovation can depend on the performance of basic research (oftentimes undertaken many years earlier) with no known commercial application, and private sector research and development will tend to under-emphasize such things; 

so, policies that encourage basic research indirectly promote productivity growth. With regard to the labor force, Government support for education is justified because the cost to society when 

young adults fail to prepare for the job market exceeds the private 

cost to the individual. 

Policy uncertainty is an important consideration as well. To the 

degree that risk-averse firms adopt a more cautious approach to investment when the future path of Government policy is unclear, 

such uncertainty can retard productivity growth. 

Q.18. How can the United States improve productivity? 

A.18. There may be opportunities to influence productivity through 

the channels discussed above. For example, although private research and development (R&D) has recovered since the Great Recession, Government R&D remains low by historical standards, 

raising the possibility that we are sowing fewer seeds that may 

yield future practical innovations. With regard to human capital, 

recent research has highlighted the lifelong impact of early childhood education for poor students who would not otherwise have 

been in a stimulating environment. And regarding business investment, as noted above, a stable and predictable policy regime may 

encourage capital spending. Also, the stock of capital employed by 

the private sector includes roads, bridges, and so forth that are provided by the Government, and such investment has slowed in recent years. Finally, Government policies should be evaluated critically with respect to their effects on the free flow of labor and capital. 

Q.19. According to research compiled by AEI scholar, Nicholas 

Eberstadt, in his book ‘‘Men Without Work’’, the proportion of 

47 

prime-age men out of the labor force more than tripled in the past 

50 years, from only 3.4 percent in 1965 to 11.8 percent in 2015. In 

addition, eight times as many prime-age men were economically inactive and not pursuing education in 2014 than in 1965. 

What priority should we give this measurement in our broader 

economic calculus? 

A.19. One important indicator of the health of the labor market is 

the labor force participation rate (LFPR), defined as the fraction of 

the working-age (16 years and older) population that is working or 

looking for work. The LFPR increased from less than 60 percent in 

the early 1960s to about 67 percent by the late 1990s, with much 

of the rise reflecting an increase in women’s labor force attachment. Since then, the LFPR has fallen to about 63 percent. Although much of this decline is attributable to population aging as 

members of the baby boom cohort (born 1946 to 1964) have begun 

to reach retirement age, some of the decline in the overall LFPR 

is also attributable to the continued decline in LFPR for prime-age 

(25–54 year old) men. 

The decline in LFPR for prime-age men is especially notable because they have historically had high levels of labor force participation. Moreover, this decline has been particularly steep relative to 

trends in the LFPR for other demographic groups, and has been especially steep for prime-age men with no more than a high school 

education. Understanding why the LFPR for prime-age men has 

fallen, and how responsive the LFPR for this group may be to further economic expansion, is important for determining whether the 

LFPR for prime-age men can reverse some of its longer-run decline, 

and how much additional improvement in labor force participation 

overall is possible if broader economic conditions remain favorable. 

Of particular interest to monetary policymakers is assessing where 

the labor market stands in the aggregate relative to the full-employment benchmark. 

Q.20. To what do you attribute this decline in labor force participation? 

A.20. One possibility is that there has been a change in the composition of the types of available jobs, which may have disproportionately reduced employment opportunities for prime-age men (especially men with no more than a high school degree). Researchers 

have highlighted at least two potentially significant changes in the 

labor market that may have led to diminished job availability for 

these men. The first is the increased use of automation in the production process and computers in the workplace more generally, 

which has likely resulted in the elimination of some jobs over the 

past few decades that are now more efficiently performed by machines. The second is increased globalization, which is likely reinforcing the effects of automation. Though trade is generally beneficial, increased competition from lower-priced imports in some industries, according to some researchers, may be contributing to the 

decline in manufacturing employment. Both of these changes may 

have contributed to the decline in jobs that were particularly common for prime-age men, especially in manufacturing, and some of 

the workers who have been displaced by these changes may have 

opted to drop out of the labor force. 

48 

Another possibility is that prime-age men’s ability to work or desire to work given available employment opportunities has diminished. For example, evidence suggests that significant health limitations may inhibit many individuals from participating in the 

labor force, and opioid use may also be an increasingly important 

barrier to employment for some individuals. Also, the severity and 

length of the Great Recession, and the sluggishness of the recovery, 

may have degraded somewhat the skills of individuals who experienced long spells of non-employment, or caused some employers to 

believe that such individuals’ skills have decayed. Consequently, 

some individuals who lost their jobs during or after the Great Recession may have come to believe that they were unlikely to find 

suitable employment, and responded by dropping out of the labor 

force. 

Q.21. What types of policies could be effective in improving labor 

force participation among prime-age men? 

A.21. Most broadly, it seems likely that policies supportive of continued economic expansion would improve job opportunities and encourage labor force attachment among all workers, including 

prime-age men. 

Designing policies that aim to improve the labor force attachment for prime-age men can be challenging but should probably 

focus on some of the previously mentioned issues. For example, 

workforce development programs targeted to individuals displaced 

from jobs in shrinking industries and occupations could provide information on the current needs of local employers, provide re-training or additional education to meet those demands, and perhaps 

offer relocation assistance for moving to areas where job opportunities are most abundant. These programs may be particularly effective for younger workers (who are more geographically mobile and 

have more of their career remaining to benefit from the new skills 

provided by re-training), and may be most productively targeted at 

areas of the country where the decline in job opportunities has 

been most significant (such as locations that specialized in certain 

manufacturing industries). Another potentially fruitful approach 

may be promoting entrepreneurship as a path to a productive career, by offering education in the management and business skills 

necessary for operating a successful small business. 

Q.22. According to research from the Economic Innovation Group, 

the new startup rate is near record lows, dropping by ‘‘half since 

the late 1970s.’’ The total number of firms in the U.S. dropped by 

around 182,000 from 2007–2014. 

Are you concerned about this decline in new startups and broader economic consolidation? 

A.22. The decline in new startups has been attracting a lot of attention, including within the Federal Reserve System, partly out of 

concern that some of the more recent decline might have played a 

role in the slow recovery after the Great Recession. 

The startup rate (defined as the share of firms that are new in 

a given year) fell from 12.5 percent in 1980 to 8.0 percent in 2014 

(the latest year for which data are available). The decline in startup activity is worth studying for several reasons. Research has 

shown that new firm entry is a significant driver of aggregate job 

49 

gains and of productivity growth. Moreover, changes in employment at new and young films tend to account for a large share of 

job growth during recoveries. 

Economists have found that the decline in startup activity since 

2000 looks somewhat different from the decline between 1980 and 

2000. Two factors can account for much of the decline in the startup rate prior to 2000, neither of which is believed to have reduced 

American living standards broadly. 

• Due to demographic changes, particularly birth rate patterns 

during the late-20th century, the U.S. labor force has grown 

more slowly in recent decades than previously. This slowing is 

believed to have reduced firm entry rates because new firm formation is typically highly responsive to labor force growth. 

• Substantial consolidation to the retail trade sector in the 1980s 

and the 1990s, which was a slow growth sector that had historically been characterized by high rates of entrepreneurship. 

While the demographic and industrial patterns described above 

have continued to affect startup rates after 2000, the sources of the 

decline in startup activity appear to have expanded and may be 

cause for concern. 

• The decline in activity of young and startup firms spread to 

the information and high tech sectors after 2000, and across 

most industries rapid growth in employment, revenue, and 

value among young firms became less common. Falling startup 

activity in highly innovative sectors, along with the decline in 

high-growth outcomes among startups more broadly, may have 

negative implications for productivity and, therefore, American 

living standards. 

• Reduced competition from high-performing new entrants may 

also be contributing to increased concentration in many industries in the U.S. Whether rising concentration reflects a consumer-harming decline in the intensity of competition is still 

au open question, and the causes of the post-2000 decline in 

high-growth startup activity remain unknown. Researchers in 

the Federal Reserve System and elsewhere are actively investigating this topic. 

Q.23. What, if any, policy solutions should be explored in order to 

respond to these challenges? 

A.23. The underlying causes of the post-2000 decline in highgrowth entrepreneurship are still not well understood, so identifying policy remedies for these patterns is difficult. However, there 

is a large body of research on the policy determinants of entrepreneurship generally. It would be inappropriate for the Federal Reserve to criticize or endorse specific Government policies in this 

area, but a number of academic studies have explored these issues 

and can be summarized here. 

In some cases, lack of access to financing can inhibit the formation and growth of new firms. In the wake of the financial crisis, 

credit markets were severely impaired, though functioning has 

largely recovered. Research suggests that entrepreneurship may 

also be supported by efforts to: reduce barriers to starting a firm 

more broadly (including policies that implicitly subsidize wageVerDate Nov 24 2008 12:26 Dec 15, 2017 Jkt 046629 PO 00000 Frm 00053 Fmt 6602 Sfmt 6602 L:\HEARINGS 2017\07-13 ZDISTILLER\71317.TXT JASON
50 

earning work over self-employment); maintain a robust education 

system to ensure potential entrepreneurs (particularly women and 

minorities, a partially untapped pool of potential entrepreneurs) 

and their potential employees can acquire crucial technical skills; 

ensure an equal playing field between incumbents and potential 

entrants; and preserve competition and the mobility of labor. 

Q.24. In 2007 you stated that the Phillips curve, the inverse relationship between unemployment and inflation, ‘‘is a core component 

of every realistic macroeconomic model.’’ Is this still true? If so, 

how does the current trend of low inflation and low unemployment 

fit into this model? If not, what new models are in place to give 

the American people confidence in the Federal Reserve’s ability to 

manage inflation? 

A.24. The evidence does suggest that labor market conditions (as 

summarized by the unemployment rate for example) influence inflation, and in my view this Phillips curve relationship is an important component of macroeconomic models. However, the magnitude 

of this influence seems to be modest, and especially over short periods of time, the effect can easily be overshadowed by other factors 

influencing inflation. For example, the drop in oil prices and the 

strengthening exchange value of the dollar that began around mid2014 held down inflation appreciably over the following couple of 

years, and those influences far outweighed the effect of a tightening labor market. 

Moreover, given the limits of our knowledge and noise in the 

data, those ‘‘other factors’’ are not always readily identifiable. As 

l said in my recent testimony, the softening of inflation this past 

spring appeared to reflect unusual reductions in certain categories 

of prices, and I would expect those not to be repeated. In the Summary of Economic Projections from June, the median inflation projection from Federal Open Market Committee (FOMC) policymakers calls for inflation to reach 2 percent over the next 2 years, 

as recent softness is not repeated and as the labor market 

strengthens further. Policymakers certainly recognize the risks 

around their projections, and with inflation having run below the 

FOMC’s 2 percent objective for most of the period since the last recession, the FOMC has emphasized that we are carefully monitoring progress toward our symmetric inflation goal. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR ROUNDS 

FROM JANET L. YELLEN 

Q.1. During your appearance before the Banking Committee in 

February, you mentioned that commercial and industrial or C and 

I lending has grown by over 75 percent since the end of 2010. This 

statistic was also mentioned in a hearing our colleagues in the 

House Financial Services Committee held in April when Mr. Peter 

Wallison from the American Enterprise Institute explained that 

the 75 percent increase in C and I lending is somewhat misleading. 

According to Mr. Wallison, the banking sector as a whole has yet 

to reach the lending level it was at in 2008 aside from a few of the 

very largest banks. 

In addition, Mr. Wallison’s written testimony cited two Fed researchers—Dean Amel and Traci Mach—who have found that there 

51 

1Dean Amel and Traci Mach (2017), ‘‘The Impact of the Small Business Lending Fund on 

Community Bank Lending to Small Businesses’’, Economic Notes, vol. 46, no. 2, pp. 307–328. 

is a significant difference between the volume of loans made for 

amounts under 1 million dollars, which is oftentimes a proxy for 

lending from small institutions, and loans made for amounts over 

1 million. 

Can you please comment on the degree to which our banking sector, and our small banks in particular, have yet to make up the 

ground in C and I lending post-crisis? And what’s your take on the 

research from Dr. Amel and Dr. Mach? 

A.1. Total commercial and industrial (C&I) loans outstanding have 

grown since the end of 2010 for all commercial banking organizations—including for large commercial banking organizations as a 

group and for small commercial banking organizations as a group. 

Although growth has been more rapid for the group comprised of 

larger banking organizations, smaller banks, in aggregate, have 

also experienced significant growth in C&I lending during this time 

period. For example, total C&I loan balances at banking organizations with less than $10 billion in consolidated assets (a commonly 

used threshold for defining community banks) grew by more than 

20 percent from 2010 to 2016, and the aggregate volume of C&I 

loans at these smaller banks was greater at year-end 2016 than at 

year-end 2007 or year-end 2008. The lower rate of growth in lending for the group comprised of smaller banks is, in part, attributable the fact that the number of banks in this size category has 

declined, while the number of banks with more than $10 billion in 

assets has increased. This shift in the size distribution of banks is 

due to the combined effects of the acquisition of some community 

banks by larger banks and the growth of some community banks 

beyond the $10 billion threshold by 2016. 

The research by Dr. Amel and Dr. Mach, 1 which is referenced in 

Mr. Wallison’s testimony, notes that business loans under $1 million at origination are often used as a proxy for small business 

lending, not as a proxy for lending by community banks. Bank Call 

Reports filed by all commercial banks and thrift institutions provide data on their small loans to businesses. However, the Call Reports do not provide information on the size of the business obtaining the Joan. 

Amel and Mach (2017) look specifically at small business lending 

by community banks. They note in their paper that following the 

financial crisis, total outstanding loans to businesses at commercial 

banks declined sharply. As of the third quarter of 2010, larger 

loans to businesses had begun to recover, but smaller loans to businesses were still in decline. The lack of recovery in smaller loans 

to businesses was a primary reason for the creation of the Small 

Business Lending Fund (SBLF) in 2010. Amel and Mach’s work 

finds that the SBLF had little effect on small business lending by 

community banks. Although SBLF-participating community banks 

did increase their small business lending by a greater percentage 

than did nonparticipating community banks, this higher rate of 

growth in lending was already evident prior to the implementation 

of the SBLF, and did not change following the introduction of the 

SBLF. 

52 

1See Basel Committee on Banking Supervision, ‘‘Consultative Document: Globally-Systemically Important Banks—revised assessment framework’’. Issued for comment by June 30, 2017. 

March 2017. 2 ‘‘Calibrating the G–SIB Surcharge’’, Board of Governors of the Federal Reserve System, July 

20, 2015. 3 80 FR 49088 (August 14, 2015). 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TILLIS 

FROM JANET L. YELLEN 

Q.1. I am very concerned about the method the Board has implemented to make determinations about the systemic risk profile of 

bank holding companies. As noted in the final rule issued July 20, 

2015, the Board developed an ‘‘expected impact’’ framework, which 

is a consideration of each firm’s expected impact on the financial 

system, determined as a function of the harm it would cause to the 

financial system were it to fail multiplied by the probability that 

it will fail. 

To determine this potential harm, which Board staff deemed the 

‘‘systemic footprint’’ of a particular firm, a multifactored assessment methodology was developed. This test uses five equally 

weighted categories that the Board asserts are ’’correlated with 

systemic importance’’—size, interconnectedness, cross-jurisdictional 

activity, substitutability, and complexity. Covered firms are then 

‘‘scored’’ using these factors and firms with the highest scores are 

deemed to present systemic risks. 

I believe that tracking and addressing systemic risks to the financial system is one of the most important responsibilities delegated to the Board of Governors. Due to the considerable significance, it is essential for the Board to use thoughtful, robust, and 

ultimately predicative tests/criteria/methods in its efforts. 

Please indicate why you believe the five factor test that is currently being used is the best manner to determine the systemic impact of firms. Additionally, I respectfully request that you share the 

background materials/information/analyses that lead you (and or 

the Board) to draw this conclusion. 

A.1. In all of our efforts, our goal is to establish a regulatory framework that helps ensure the resiliency of our financial system, the 

availability of credit, economic growth, and financial market efficiency. The Federal Reserve has been working for many years to 

make sure that our regulation and supervision is tailored to the 

size and risk posed by individual institutions. 

The five-factor test for determining the systemic footprint of global systemically important banks (G–SIBs) is used by the Federal 

Reserve Board (Board) to determine which banking firms are G– 

SIBs and to determine the capital surcharge for each G–SIB. The 

Board believes that the five factor measure is a meaningful, but approximate, measure of a banking firm’s systemic importance. The 

Board realizes that any such measure should evolve over time. As 

a result, the methodology is regularly reviewed, and is in the process of being reviewed now. 1

The five-factor measure reflects substantial research efforts by 

both the international community and the Federal Reserve System. 

The analytical background for the Board’s approach to G–SIB capital surcharges is spelled-out in a Board white paper, 2 along with 

the discussion in the Federal Register notice of the final rule. 3 The 

53 

4 Basel Committee on Banking Supervision, ‘‘Global Systemically Important Banks Assessment Methodology and Higher Loss Absorbency Requirement’’, July 2013. 5Wayne Passmore and Alex H. von Hafften, ‘‘Are Basel’s Capital Surcharges for Global Systemically Important Banks Too Small?’’ Finance and Economics Discussion Series, Working 

Paper 2017-021, Appendix 1. 

Basel Committee also has provided an explanation of its five-factor 

measure. 4 An in-depth study of the Basel Committee’s G–SIB capital surcharge system found that the weights used by its systemic 

indicator system produced results that were consistent with other 

approaches to creating a G–SIB index. 5 Moreover, the surcharges 

that were assigned under the five-factor measure are consistent 

with a range of alternative parameterizations of key variables in 

the formula. 

The selected indicators in the Board’s G–SIB capital surcharge 

framework were chosen to reflect the different aspects of how G– 

SIBs generate negative externalities when they are in financial 

trouble, and the different aspects of what makes a G–SIB critical 

for the stability of the financial system. The Board recognizes that 

there is no perfect measure of systemic importance and, as a result, 

the G–SIB measure focuses on indicators where there is substantial supervisory agreement about their link to systemic importance. 

Additionally, while not directly asked in your question, an important topic related to this is ensuring that the Board continually assess its approaches to regulation to ensure that rules are tailored 

as much as possible to the actual risk of a regulated entity. 

The Board has been making efforts to do this in many areas, 

such as our recent changes to our Comprehensive Capitol Analysis 

and Review qualitative analysis. However, as my colleague Governor Powell and I have noted, the Board has limited authority in 

tailoring certain provisions, such as the thresholds applied in section 165 of the Dodd–Frank Wall Street Reform and Consumer Protection Act. Further tailoring in areas such as these would require 

congressional action. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP 

FROM JANET L. YELLEN 

Macroeconomic Policy 

Q.1. Today we have the strongest labor market in a decade, a 4.4 

percent unemployment rate, yet wages are rising barely faster than 

inflation. Many economists have pointed to low productivity growth 

as the driving factor for why Americans haven’t seen significant 

growth in real wages. 

Do you believe productivity is the biggest factor holding back 

wage growth? 

Is slow productivity growth in part the result of businesses that 

have failed to pass on the gains from a growing economy by training and investing in their workers? 

What can we do to help turn the tide on productivity growth and 

boost wages for American workers? 

A.1. It is true that wage gains have been disappointing, and while 

this is not the only factor, sluggish productivity growth has been 

an important reason that wage growth has not been higher. Productivity in the business sector has increased only 11⁄4 percent per 

54 

year since 2006, compared with its average of 21⁄2 percent from 

1949 to 2005. And over the past years, productivity rose less than 

3⁄4 percent per year, on average. Over time, sustained increases in 

productivity are necessary to support rising household incomes and 

living standards. 

Economists do not fully understand the exact causes of the slowdown in productivity growth. To some extent, the slowdown may 

reflect the aftermath of the global financial crisis and recession. 

For example, research and development spending, an important 

source of innovation, fell sharply during the recession. To the extent such factors are at play, we may expect productivity growth 

to improve as the economy strengthens further. However, some 

analyses emphasize factors that predate the financial crisis and recession. For example, evidence suggests that the effects of the information technology revolution were fading by the early 2000s. 

Moreover, some see recent technological advances, including in information technology (IT), as less revolutionary than earlier technologies like electricity and the internal combustion engine. These 

more structural explanations might portent a longer period of slow 

productivity growth; though it certainly is possible that IT-related 

innovations, such as robotics and genomics, will eventually produce 

significant advances. 

While there is disagreement about what policies would most effectively boost productivity, a variety of policy initiatives would 

likely contribute. More investment, both through improved public 

infrastructure and more encouragement for private investment, 

would likely play a meaningful role. More effective regulation likely 

could contribute as well. And better education, at all grade levels 

and including adult education, could both promote productivity 

growth and contribute to higher incomes not just on average, but 

throughout our society. 

Q.2. How proactive are you going to be able to be during the unprecedented unwinding of the Fed’s portfolio, should the impact of 

balance normalization deteriorate financial conditions to a point 

where the real economy is adversely impacted’? 

A.2. Provided that the economy evolves broadly as anticipated, the 

Federal Open Market Committee (FOMC) expects to begin implementing a balance sheet normalization program this year. Consistent with the Policy Normalization Principles and Plans released 

in 2014, this program would gradually decrease reinvestments and 

initiate a gradual and largely predictable decline in the Federal Reserve’s securities holdings. 

For both Treasury and agency securities, we will reinvest proceeds from our holdings only to the extent that they exceed gradually rising caps on the reductions in our securities holdings. Initially, these caps will be set at relatively low levels—$6 billion per 

month for Treasuries and $4 billion per month for agency securities. Any proceeds exceeding those amounts would be reinvested. 

These caps will gradually rise over the course of a year to maximums of $30 billion per month for Treasuries and $20 billion per 

month for agency securities, and will remain in place through the 

normalization process. By limiting the volume of securities that private investors will have to absorb as we reduce our holdings, the 

55 

caps should guard against outsized moves in interest rates and 

other potential market strains. The FOMC announced the details 

of this plan in advance so that when it goes into effect, no one is 

taken by surprise and market participants understand how it will 

work. 

The FOMC expects this plan for reducing the Federal Reserve’s 

securities holdings will run quietly in the background. Of course, 

the FOMC will be monitoring the process of balance sheet normalization over time and its effects in financial markets. The FOMC 

has noted that it would be prepared to resume reinvestments if a 

material deterioration in the economic outlook were to warrant a 

sizable reduction in the Federal funds rate. More generally, the 

FOMC would be prepared to use its full range of tools, including 

altering the size and composition of its balance sheet, if future economic conditions were to warrant a more accommodative monetary 

policy than can be achieved solely by reducing the Federal funds 

rate. 

Asset Thresholds for Systemically Important Financial Institutions 

Q.3. On several occasions before this Committee Governor Tarullo 

stated that the dollar asset thresholds in Dodd–Frank such as the 

$50 billion threshold for SIFI designation, is far too high. 

Do you believe regulators could effectively address systemic risk 

if the threshold were raised above $50 billion? 

Are there specific provisions in Dodd–Frank which you believe 

are particularly costly or unnecessary for a certain subset of banks 

above the $50 billion threshold? 

Are there specific provisions in Dodd–Frank which you believe 

are necessary for all banks above $50 billion in assets that should 

be retained in order to mitigate systemic risk? 

What concerns do you have with having a purely qualitative test 

for identifying systemic risk? 

A.3. In all of our efforts, our goal is to establish a regulatory framework that helps ensure the resiliency of our financial system, the 

availability of credit, economic growth, and financial market efficiency. The Federal Reserve Board (Board) has been working for 

many years to make sure that our regulation and supervision is 

tailored to the size and risk posed by individual institutions. 

The failure or distress of a large bank can harm the U.S. economy. The recent financial crisis demonstrated that excessive risktaking at large banks makes the U.S. economy vulnerable. The crisis led to a deep recession and the loss of nearly nine million jobs. 

Our regulatory framework must reduce the risk that bank failures 

or distress will have such a harmful impact on economic growth in 

the future. 

The Board has already implemented, via a regulation that was 

proposed and adopted following a period of public notice and comment, a methodology to identify global systemically important 

banking organizations (G–SIBs), whose failure could pose a signifiVerDate Nov 24 2008 12:26 Dec 15, 2017 Jkt 046629 PO 00000 Frm 00059 Fmt 6602 Sfmt 6602 L:\HEARINGS 2017\07-13 ZDISTILLER\71317.TXT JASON
56 

1 Board of Governors of the Federal Reserve System (2015), ‘‘Regulatory Capital Rules: Implementation of Risk-Based Capital Surcharges for Global Systemically Important Bank Holding 

Companies’’, final rule, FR 80 (August 14), pp. 49082–49116. 2For evidence on the link between bank distress and economic growth, see Mark A. Carlson, 

Thomas King, and Kurt Lewis (2011) ‘‘Distress in the Financial Sector and Economic Activity’’, 

The B.E. Journal of Economic Analysis & Policy: Vol. 11: Iss. 1 (Contributions), Article 35. For 

evidence on the link between financial market functioning and economic growth, see Simon Gilchrist and Egon Zakrajsek (2012), ‘‘Credit Spreads and Business Cycle Fluctuations’’, American 

Economic Review, Vol. 102(4): 1692–1720. 3 Board of Governors of the Federal Reserve System (2017), ‘‘Amendments to the Capital Plan 

and Stress Test Rules; Regulations Y and YY’’, final rule, FR 82 (February 3), pp. 9308–9330. 

cant risk to the financial stability of the United States. 1 The ‘‘systemic footprint’’ measure that determines whether a large firm is 

identified as a G–SIB includes attributes that serve as proxies for 

the firm’s systemic importance across a number of categories: size, 

interconnectedness, complexity, cross-jurisdictional activity, substitutability, and reliance on short-term wholesale funding. 

There are many large financial firms whose failure would pose 

a less significant risk to U.S. financial stability, but whose distress 

could nonetheless cause notable harm to the U.S. economy (large 

regional banks). Some level of tailored enhanced regulation is appropriate for these large regional banks. The failure or distress of 

a large regional bank could harm the U.S. economy in several 

ways: by disrupting the flow of credit to households and businesses, 

by disrupting the functioning of financial markets, or by interrupting the provision of critical financial services, including payments, clearing, and settlement. Economic research has documented that a disruption in the flow of credit through banks or a 

disruption to financial market functioning can affect economic 

growth. 2

The application of tailored enhanced regulation should consider 

the size, complexity, and business models of large regional banks. 

The impact on economic growth of a large regional bank’s failure 

will depend on factors such as the size of the bank’s customer base 

and how many borrowers depend on the bank for credit. Asset size 

is a simple way to proxy for these impacts, although other measures may also be appropriate. For large regional banks with more 

complex business models, more sophisticated supervisory and regulatory tools may be appropriate. For example, the Board recently 

tailored our Comprehensive Capital Analysis and Review qualitative assessment to exclude some smaller and less complex large 

regional banks, using asset size and nonbank assets to measure 

size and complexity, respectively. 3 In other contexts, foreign activity or short-term wholesale funding may be another dimension of 

complexity to consider. Any characteristics or measures that are 

used to tailor enhanced regulation for large regional banks should 

be supported with clear analysis that links them with the potential 

for the bank’s failure or distress to cause notable harm to the U.S. 

economy. 

The Board currently has only limited authority to tailor the enhanced prudential standards included in section 165 of the Dodd– 

Frank Wall Street Reform and Consumer Protection Act (Dodd– 

Frank Act). In particular, Congress required that certain enhanced 

prudential standards must apply to firms with $10 billion in total 

assets, with other standards beginning to apply at $50 billion in 

total assets. 

57 

You asked whether regulators could effectively address systemic 

risk if these statutory thresholds were raised. The Board has supported increasing these thresholds. We believe that the risks to financial stability from large banks, as noted above, can be addressed with tailored enhanced regulation, including higher thresholds. 

You also asked about the specific provisions in section 165 of the 

Dodd–Frank Act. The Board has not taken a position on the relative merits of these provisions. As noted above, some level of tailored enhanced regulation is appropriate for large banks, taking 

into account how a particular regulatory standard affects a bank’s 

size, complexity, and business model. Among these many provisions, the Board believes that supervisory stress testing is one of 

the most valuable, providing a forward-looking assessment of the 

largest firms’ ability to continue providing credit to the real economy in the event of a significant macroeconomic and financial 

stress. 

You asked whether I have concerns about using a qualitative test 

in place of the existing quantitative thresholds. As my answer 

above noted, I believe that it would be logical to use a wider range 

of factors than asset size to determine the application of tailored 

enhanced regulation for large regional banks. Such factors should 

include quantitative metrics. 

Congress could usefully decide to pursue either raising dollar 

thresholds or giving authority to the Board to decide which firms 

are subject to enhanced prudential standards. The Board stands 

ready to work with Members on the design of either approach. 

Liquidity Coverage Ratio 

Q.4. As watchdogs of the financial system, we know that the Fed, 

OCC, and FDIC focus on promoting safety and soundness, and support transparency. To that end, firms are required to disclose extensive information on their financial health to the public. 

Like all things, balance is important and in drafting rules and 

regulations, the agencies consider what is useful information 

versus what can be misleading and inadvertently hurt the markets. 

We’ve seen the Federal Reserve be thoughtful about that—for example, the Fed does not disclose to the public who accesses its discount window for at least 2 years, balancing transparency with risk 

of public misconception. The Fed has recognized in that case that 

immediate information could actually lead to a market stress. 

In December, the Federal Reserve finalized a rule requiring 

banks to publicly disclose—within 45 days of the end of quarter— 

the details of a complex liquidity metric called the Liquidity Coverage Ratio. 

Why does the Fed allow a 2-year disclosure period for the discount window and only 45 days for this complex metric when the 

risks of public misconception are the same? 

How is the Fed promoting safety and soundness by asking banks 

to disclose complicated liquidity information that could lead to a financial stress? 

Since the Fed is already monitoring firms’ liquidity data every 

day, why do we need this additional disclosure requirement? 

58 

Would the Fed find it beneficial to conduct further study on the 

rule before requiring disclosures? 

A.4. The different timelines required for discount window and Liquidity Coverage Ratio (LCR) disclosures reflect the different purposes of the disclosures. 

The Dodd–Frank Act specified the content of the discount window disclosures as well as the 2-year disclosure period. The primary purpose of the discount window disclosure is to provide transparency and accountability to the public regarding the Board’s 

lending activities. Eligible borrowers may choose to borrow from 

the discount window both under normal conditions and when they 

are experiencing a liquidity stress. The discount window disclosures require all borrowing institutions to disclose transaction-specific information about a bank’s business decision to borrow at the 

window, including the amounts borrowed and the collateral provided to secure each loan. A key reason for the 2-year lag in disclosing this information is to preserve the willingness of solvent institutions to use the discount window, ensuring the effectiveness of 

the discount window as a backstop liquidity facility and systemic 

liquidity shock absorber for solvent institutions. In passing the 

Dodd–Frank Act, the Congress weighed the need for greater transparency about the Board’s lending operations and the need to 

maintain the discount window as an effective liquidity backstop, 

and concluded that a 2-year lag in disclosing transaction-level information on discount window borrowing appropriately balanced 

these two policy objectives. 

In contrast, the primary purpose of the LCR public disclosure requirements is to promote safety and soundness by providing market participants high-level information about the liquidity risk profile of large banking organizations to support the ability of market 

participants to understand and constrain bank risk-taking. This 

sort of market discipline can usefully complement the Board’s supervisory practices and policies. During times of stress, public disclosures can also enhance stability by providing relevant and sufficiently timely information that assures counterparties and other 

market participants regarding the resilience of covered companies. 

Without information about the liquidity strength of their counterparties, market participants may assume the worst regarding 

banking institutions and draw back from the entire market, exacerbating the problem. 

The LCR public disclosures must be sufficiently informative and 

timely to serve their intended purpose. In order to mitigate potential financial stability and firm-specific risks related to disclosing 

real-time liquidity information, the LCR public disclosure rule requires covered companies to disclose average values of broad categories of liquidity sources and uses over a quarter, with a 45-day 

lag after the end of the quarter. Unlike event-driven discount window disclosures, the LCR public disclosure rule requires a set of 

firms to make regular periodic disclosures and does not require disclosure of transaction-specific information. They are more analogous to the Board’s quarterly capital public disclosure requirements, which also focus on a firms’ financial condition and risk 

management practices. 

59 

Given the fundamentally different purposes of the discount window and LCR disclosures, the Board did not provide for a common 

timeframe for the disclosures. While I do not believe it is necessary 

to conduct further study on the LCR public disclosure rule at this 

time, the Board will carefully monitor the implementation of these 

requirements going forward. If warranted, I would be willing to revisit aspects of the LCR disclosures that result in significant undesirable or unintended consequences. 

60 

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD


71317001.eps

MoNETARY Poucv REPORT 

July7, 2017 

Board of Governors of the Federal Reserve System 

For ust at 11 :00 am. EDT 

.klly7,:ro17 
61 


71317002.eps

lmER OF T RANSMITIAL 

ll<w\1) Of GOVER:"ORS OF THE 

I'F.l)ERAL RESERVE SI'STEl1 

Washington. D.C.. July 7. 2017 

1)ffi PR£SIOEi-'T OF THE SE~ATB 

1)m SPEAKER OF TilE IIOUSE OF REPRES£1-'TAl l\'F.S 

h~ Board or Gov~mors is pl.:as..-xl to submit its Monetary Policy Report pursuant to 

section 2n or the F'cderal Reserve Act. 

Janet L. Yellen, Chair 
62 


71317003.eps

STATEMENT ON lONGER-RUN GOALS AND MONETARY POLICY STRATEGY 

Adopted eiieclive jamrary 24,2012, as amended efieclive )amrary 31 2017 

The Federal Open Market Committee(FOMC) is firmly committed to fulfilling its statutory 

mandate from the Congn:ss of promoting maximum employment. stable prio:s. and moderate 

long-term interest ate~ The Committe.: seeks to explain its monetary policy decisions to the public 

as cleariy as possible. Such clarity fa<ilitates well-informed decision making by households and 

businesses. reduces economic and finan<ial uncertainty. inen:ases the effectiveness of monetary 

policy, and enhanc.:s transpan:oey and accountability. which an: essential in a democratic so<icty. 

Inflation. employment, and long-term interest rates fluctuate over time in response to economic and 

financial disturbanCt.'S. Moreover, monetary policy actions tend to influence economic activity and 

prices with a lag. Therefore. the Committee's policy decisions reflect its longer-run goals, its mediumterm outlook. and its assessnrents of the balance of risks. including risks to the financial system that 

could impede the attainment or the Committee's goals. 

The inflation rate over the longer run is primarily determined by monetary policy. and hence the 

Committee has the ability to specify a longer-run goal for inflation. The Committee n:anirms its 

judgment that inflation at the rate of 2 percent. as mcasun:d by the annual change in the price 

index for personal consumption expenditures. is most consistent over the longer run with the 

Federal Reserve's statutory mandate. The Conunittee would be concerned if inflation were running 

persistently above or below this objectiv.:. Communicating this symmetric inflation goal clearly to the 

public helps keep longer-term inflation expectations fimliy anchored. thereby fostering price stability 

and moderate long-tem1 interest rates and enhancing the Committee's ability to promote ma.limum 

employment in the face of significam economic disturbances. The maximum level of employment 

is largely determined by nonmonetary factors that aiTecl the structure and dynamics of the labor 

market. These factors may change over time and may not be directly measurable. Consequently. 

it would not be appropriate to S[J<.--cify a fixed goal for employment: rather. the Commiuee·s policy 

decisions must be informed by assessments of the maximum level of employment. recognizing that 

such assessments are nCCt.'Ssarily uncertain and subj<.'Ct to revision. The Commiuee considers a 

wide range of indicators in making these assessments. Information about Commiuec participants' 

estimates of the longer-run normal rates of output growth and unemployment is published four 

times per year in the FOMC's Summary of Economic l'rojections. For example, in the most 

recent projections. the median of FOMC participants' estimates of the longer-run normal rate of 

unemployment was 4.8 percent. 

In setting monetary policy. the Committee S<.'Cks to mitigate deviations of inflation from iJs 

longer-run goal and deviations of employment from the Commillee's assessments of its maximum 

level. These objc'Ctives are generally complementary. However. under circumstances in which the 

Committee judges that the objectives are not complemental'}', it follows a balanc..'d approach in 

promoting them, taking into account the magnitude of the deviations and the petcntially different 

time horizons over which employment and inflation are projected to return to levels judged 

consistent with its mandate. 

l11e Committee intends to reaffirm these principles and to make adjustments as appropriate at its 

annual organizational meeting e<tch January. 
63 


71317004.eps

CONTENTS 

Summary .. . ... ... .. .. ... ... .... . ... ... .. .. .... .. ... ... .. .. 1 

Economic and Financial Developments . .... .......... ...... .. .... . .. ...... .. ... I 

Monetary Policy .... .... .. .. .. .. . .. .. ... ....... .. .. .. ... .. ... .. ... .... .. .. . 2 

SpeciaiTopics ............................................................. 2 

Part 1: Recent Economic and Financial Developments ....••.....•.... 5 

Domestic Developments.. .. .. .. .. . .. .. .. .. . .......... . 5 

Financial Developme~1ts.. ........ . . ............. .... 21 

International Developments . . .. . . .. .. .. .. . . . ......... ...... .. 29 

Part 2: Monetary Policy ............................•......•... 33 

Part 3: Summary of Economic Projections ..............•.......... 41 

n,e Outlook for Economic Activity. . . . . . . . . .. .. .. . . . . . . • . . . . . . . . . . . . .. . . . 44 

TI1e Outlook for Inflation . . . . . .. . .. . . .. .. . .. .. . .. . . .. .. .. . . . 45 

Appropriate Monetary Policy . . . . . 45 

Uncertainty and Risks. . .. . . . .... .. , . . . . ............... .. 51 

Abbreviations . .. ... .. .... . .... ... .. . .... .. ........ .. .... .. . 59 

list of Boxes 

Does Education Determine Who Climbs the Economic Ladder?. . . . ..•. ...•.. .... ... 8 

Productivity Developments in the Advanced Economies. . . . . ............. .. .. 12 

Developments Related to Financial Stability. . . . . . . . . . . . . . . . . . . .......... 24 

Recent Developments in Corporate Bond Market Liquidity. . . . ......... 26 

Monetary Policy Rules and Their Role in the Federal Resetve's Policy Process .....•...... 36 

Adde~ldum to the Policy Normalization Principles and Plans . . . . . . . . ..... .. .. 40 

Forecast Uncertainty ......... .. .. . .. .... .... ...... ........ ...... ........... 57 

Non: This report renects information that was publicly available as of noon EDT on July 6, 2017. 

Unless~ Sl.lt<>f, the tirll<' series in rile fogurt< C'>CI('rlrlthroogh, (Of daily cl.lta, JulyS, 2017; for monthly data, 

lur>c> 2017; and, loc-qu.w•lydat.l, 2017:QI. In bardl.lr1S, excx>p~ asl10(ed, thc><Nnge loc-a~lleriod ~ rne>sured to 

i1s final quaner from the final q~raner of the pre<:l'ding period. 

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used."'diOtl>uo<iw'o""'JP-~prioo"'""'"""" C'P)..,.Cl017.11.-0..:&C~o\Ll,;g.,.........t 
64 


71317005.eps

SUMMARY 

Economic activity increased at a moderate 

pace over the first half of the year. and the jobs 

market continued to strengthen. Measured on 

a 12-month basi~ inflation has softened some 

in the past few months. The Federal Open 

Market Commiuee (FOMC) judged that. on 

balance. curn:nt and prospective economic 

conditions called for a further gradual removal 

of policy accommodation. At its most recent 

meeting in June. the Conm1i1tee boosted 

the target range for the federal funds rate to 

Ito IV. pert~nt. The Commiuee also issued 

additional information regarding its plans 

for reducing the si.7.e of its balance sheet in a 

gradual and predictable manner. 

Economic and Financial 

Developments 

Labor markers. The labor market has 

Slf'l.>ogthened f unher so fa r this year. Owr the 

first five months of 2017. payroll employment 

incre.ased 162.000 per month. on average. 

somewhat slower than the average monthly 

increase for 2016 but slill more than enough 

to absorb new entrants into the labor for.x. 

l11c unemployment rate fell from 4.7 percent 

in Dtremher to 4.3 percent in May- modestly 

below the median of FOMC participants' 

estimates of its longer-run normallc\'cl. 

Other measures of labor utiliution are also 

consistent with a relatively tight labor market. 

Howewr. despite the broad-based strength 

in measures of employment. wage growth has 

been only modest. possibly held down by 

the weak pace of producti1-ity gro"1h in 

recent yea~ 

Inflation. Consumer price inflation. as 

measured by the 12-month change in the price 

index for personal consumption expenditure~ 

briefly reached the FOMC's 2 percent 

objective earlier this )'l'ar. but it more rt-cently 

has softened. The late>t reading. for May, 

was 1.4 percent- still up from a year earlier 

when falling energy pri<X'S restrained overall 

consumer prices. The 12-month measure of 

inflation that excludes food and energy items 

(so-called core inflation). which historically has 

been a better indicator than the headline figure 

of where overall inflation will be in the future. 

""dS also 1.4 percent over the year ending in 

May: this rt'ading was a bit lower than it had 

been one year earlier. Measures of longerrun inflation c.~pectations have been relatively 

stable. on balance. though some measures 

remain low by historical sta dard~ 

Economic growth. Real gross donll!stic 

product (GDP) is reported to have risen at 

an annual rate of about I 'h percent in the 

first quarter of 2017, but more rt-ct.'llt data 

suggest growth stepped hack up in the ~wnd 

quarter. Consumer spending was sluggish 

in the early part of the year but appears to 

have rebounded rt-cently. supported by job 

gains. ri ing household wealth, and favorable 

consumer sentiment. Business invesl!nent 

has turned up this year after having been 

weak for much of 2016. and indicators of 

business sentiment have been strong. The 

housing market continues its gradual recovery. 

Economic growth has also been supported by 

rt'CCnt strength in foreign activity. 

Financial conditions. On balance. domestic 

financial conditions for businesses and 

households have continued to support 

economic growth. Long-term nominal 

Treasury yields and mortgage rates have 

decreased so fa r in 2017, although yields 

remain somewhat above levels thai prevailed 

last summer. Broad measures of equity prices 

increased further during the fir.;t half of the 

year. Spreads of yields on corporate bonds 

over comparable-maturity Trt>asury securities 

decreased. Most types of consumer loans 

remained widely available. while mongage 

credit stayed readily avaiTablc for households 

with solid credit profiks but was still difticuh 

io access for households with low crt-dit 

SCOrt'S or harder-to-document ncome~ 
65 


71317006.eps

In foreign financial markets, equity prices 

increased and risk spreads decreased amid 

generally firming economic growth and robust 

corporate earnings. Tbc broad U.S. dollar 

index depreciated modestly against foreign 

currencie~ 

Financial stability. Vulnerabilities in the 

U.S. financial system remained. on balance. 

moderate. Contributing to the financial 

system's improved resilience. U.S. banks hal'c 

substantial amounts of capital and liquidity. 

Valuation pressures across a range of assets 

and several indicato~ of investor risk appetite 

hal'e increased further since mid-February. 

ll o•-e~ er. these dcvclopments in asset markets 

hal'e not been accompanied by increased 

leverage in the financial sector. aeoording to 

al'3ilable metri~ or increased borrowing in 

the nonfinancial s..'Cior. Household debt as a 

share of GOP continues to be subdUt'<i. and 

debt owed by nonfinancial businesses, although 

elevated. has b..'lln either fiat or falling in the 

past t•u )'ea~ (See the box "Developments 

Rdaied to Financial Siabilily" in Pan I.) 

Monetary Policy 

Interest rate policy. Over the first half of 2017, 

the FOMC continued to gradually n.'()ucc the 

amount of monetary policy accommodation. 

Specifically. the Committee decided to raise tbe 

target range for the federal funds rate in Man:h 

and in June. bringing it to the current range of 

I to IV. percent. Even with these rate increas~ 

the stance of monetary policy remains 

accommodative. supporting some further 

strengthening in labor market conditions and a 

sustained return to 2 percent inflation. 

The FOMC continues to expc>ct that, with 

gradual adjustments in the stance of monetary 

policy, economic activity will e.~pand at a 

moderate pace and labor market conditions 

will strengthen somewhat further.lnHation 

on a 12-month basisise.~pected to remain 

somewhat below 2 pen:ent in tbc near term but 

to stabilize around the Committee's 2 pen:ent 

objective over the medium term. The federal 

funds rate is likely to remain. for some time. 

below levels that are expc'Cied to prevail in 

the longer run. Consistent with this outlook. 

in the most n.'Cent Summary of Economic 

Projections (SEP). compiled at the time of 

the June FOMC meeting. most participants 

projCCied thattbe appropriate level of the 

federal funds rate would be below its longer· 

run level through 2018. (The June SEP is 

presented in Part 3 of this n:port.) llowever, 

as the Committee has continued to cmpha$ize. 

monetary poli<:y is not on a preset course: 

the actual path of the federal funds rate will 

depend on the CI'Oiution of the economic 

outlook as infom1ed by incoming data. In 

particular, the Commillee is monitoring 

inflation de1-clopmcnts closely. 

Balance shfet policy. To help maintain 

accommodatii'C financial conditions. the 

Commiuee has continued its existing policy 

of reioi'I.'Sting principal payments from 

its holdings of agency debt and agency 

mortgage-backed securities in agency 

mortgage-backed s.:curities and rolling over 

maturing Treasury s.:curities at auction. In 

June. the POMC issued an Addendum to the 

Policy Nom1alit.ation Principles and l~ans 

that provides additional details regarding 

the approach the FOMC intends to follow 

to reduce the Federal Reserve's holdings of 

Treasury and agency S<'Curitics in a gradual 

and predictable manner. The Committee 

curn,'1ltly cxpc'Cls to lx'gin implementing the 

balanc.: sheet normalization program this year 

provided that the economy evolves broadly as 

anticipated. (See tbe box ··Addendum to the 

Policy Nonnali1.ation Principles and Plans" 

in Part 2.) 

Special Topics 

Education and climbing the economic ladder. 

Education. particularly a college degree. is 

often seen as a path to improved coonomic 

opportunities. Hoi\\.'VCr. despite the fact that 

young blacks and Hispanics have increased 

their educational attainment over the past 
66 


71317007.eps

quarter-century, their representation in the 

top 25 peroont of the income distribution for 

young people has not materially increased. 

In part. this outcome has occurred because 

educational attainment has increased for 

young non-Hispanic whites and Asians as well. 

While education continues to be an important 

determinant of whether one can climb 

the economic ladder. sizable differences in 

economic outcomes across race and ethnicity 

remain even after controlling for educational 

attainment. (Sec the box "Docs Education 

Determine Who Oimbs the Economic 

Ladder?" in Part 1.) 

The global producti•ity slo•roo1111. Over the 

past decade. labor productivity growth both 

in the United States and in other advano:d 

economies has slowed markedly. This 

slowdown may reAect a waning of the effects 

from advances in information technology in 

the 1990sandearly2000s. Productivity growth 

may also be low because of tbe severity of 

the Global Financial Crisi~ in part because 

spending for research and development 

was muted. Some of the factors restraining 

productivity growth may eventually fade. 

but it is difficult to ascertain whether the 

recent subdued performance of productivity 

represents a new normal. (See the box 

"Productivity Dc••clopmcnls in the Advanced 

Economies" in Part 1.) 

MO\ffARY POLICY REPOIU: )Ul¥2017 J 

Liquidity in the corporate bond market. A series 

of chang~ including regulatory efor ~ 

since the Global Financial Crisis have likely 

alten.'d financial institutions' incentives to 

provide liquidity. Many market participants 

are particularly concerned with liquidity in 

markets for corporate bonds. llowcver. the 

available evidence suggests that financial 

markets have performed well in recent years. 

11ilh minimal impairment in liquidity. either 

in the market for corporate bonds or in 

markets for other assets. (Sec the box "Recent 

Developments in Corporate Bond Markel 

Liquidity" in Part 1.) 

Monetary policy rules. Monetary policymakers 

consider a wide range of information on 

current economic conditions and the outlook 

before deciding on a policy stance they deem 

most likely to foster the FOMC's statutory 

mandate of maximum employment and stable 

prices. They also routinely consult monetary 

policy rules that connect prescriptions for the 

policy interest rate with variables associated 

11ith the dual mandate. The use of such rules 

requin.'S careful judgments about the choice 

and measurement of the inputs into these 

rules as llllli as the implications of the many 

considerations these rules do not take into 

account. (See the box "Monetary Policy Rules 

and Their Role in the Federal Reserve's Policy 

Process" in Part 2.) 
67 


71317008.eps

PART 1 

RECENT ECONOMIC AND fiNANCIAl DEVElOPMENTS 

Domestic Developments 

The labor market tightened further 

during the first half of the year . . . 

Labor market conditions continued to 

strengthen in the first five months of this 

y<><tr. On averag.:. payrolls e:<panded 162.000 

per month between January and May, 

a little slowl!r than the avl!rage monthly 

employment gain in 2016 but still more than 

enough to absorb new entrants to the labor 

force and therefore consistent with a further 

tightening of the labor market (figure 1). 

The unemployment rate has declined 

0.4 percentage point since O..>cember 2016. 

and in May it stood at 4.3 percent. its lowest 

eV~!I since late 2000 and modestly below the 

median of Federal Open Marl-et Committee 

(FOMC) participants' estimates of its longer· 

run normallo:vel. 

The labor force participation rate (LPPR) 

that is. the share of adults either working or 

actively looking for 1\'0rk- was 62.1 percent in 

May and is tittle cbanged. on net, since early 

2014 (figure 2). Along with other factors, the 

aging of the population implies a downward 

trend in participation. so the flattening out 

of the LFPR during the past few years is 

consistent with an OI'Crall picture of improving 

labor market conditio ~ The employment· 

to·population ratio-that i~ the share of the 

population that is "'Orking- was 60 percent 

in May and has been increasing for the past 

couple of years, refk.'tting the combination 

of the declining uncmployn11:nt rate and tbe 

Hat l l'l'R. 

The stn:ngtbening condition of the labor 

market is evidenl in other measures as well. 

The number of people filing initial claims for 

unemployment insurance has fallen to the 

lowestlc'ld in decades. In addition. as reported 

in the Job Openings and Labor Turnover 

Survey. the rate of job openings remained 

elevated in the first part of the year. while the 

rate of layoffs remained low; both are signs 

that firms' demand for labor is still sotid. In 

addition.the rate of quits stayed high. an 

indication that workers are confident in their 

ability to obtain a new job. Another measure. 

tbe share of workers who are working part 

time but would prefer to be CJnploy<>d full 

time-which is part of the U·6 measure of 

underutilization from the Bureau of Labor 

Statistics- fell noticeably further in the first 

five monthsof2017 (figure 3). 

. .. though unemployment rates remain 

elevated for some demographic groups 

Although the a~ate un<'nlployment 

rate was at a 16·year low in May, there are 

substantial disparities across demographic 

groups (figure 4). Notably, the unemployment 

rate for whites averaged 4 percent during 

the first five months of the year. and the rate 

for Asians was about JY, percent. However. 

lbe unemployment rates for llispanics 

(5.4 percent) and African Americans 

(7.8 perCI.'nt) were substantially higher. The 

diflerences in tbe unemployment rates across 

racial and ethnic groups are long·standing, 

and they also vary over the business cycle. 

} ............. 

2009 0~1 2012 20H 'ZOI.& lOIS 20161011 

~~on. n. ... """"""" .. ,..,.lOil. $oaa:; oll.abot BitM oillbtwS&M!ica."L 

5 
68 


71317009.eps

2. Labor fon:e p3111<ipatioo 11te and 

t~(ll t<>jlOpWMIOOt:ltlO 

~rr Tkdlu.o;'*~~l017. Bo6scriuata~fl 

thrpep11boujed l611doo.w 

Souo<L --Ubo<.llarao<ilob><SU~Jsa« 

3. Mcaswcsoflaborund<:rutitization 

lOOl 

In dec'<!. the unemployment rates for blacks 

and li ~anics both rose considerably more 

than the rates for whites and Asians during 

the Great Roc.cssion. and their subsequent 

declines have been more rapid. On balance. 

ho11~1<er. the differences in unemployment rates 

across the groups have not narrowed relative 

to the pre-n:cession period. (For additional 

discussion on diiTerenc..>s in economic 

outcomes by raoe and ethnicity. see the box 

"Does Education Determine Who Oimbs the 

Economic Laddel't) 

Growth of labor compensation has b~n 

modest ... 

Indicators of hourly compensation suggest 

that wage growth has remained modest. 

Growth of compensation per hour in the 

business sector- a broad·bas..'d measure of 

wages. salaries. and benefits- has slowed in 

recent quarters and was 2Y. percent Ol'er the 

four quarters ending in 2017:Q I (figure 5).1 

I. Tbt I'<'Ctl!t data oD CO!IljlOOI<llion ptr hour rdlt<t 

a d«ltne tD wages and sali!J1<$al tbe eod of2016. whi<h 

-IS 

-16 

14 

II 

-10 

- ' 

- 6 

lOtS 2017 

Nore lldm«tttld~Mly2011.l.'~u.'*~ICQJ~asap.mec;~ttolthtbhrbtt..t:..-ti)Cbjfdi•,Uhn~~'td 

pl•~•tdtn.asa~ollhtbboffottc:J*td~tllM.tn.~v."«bnarta-.:.ormqiWI) IIIdteiiWitkm'"howc 

--nmDII)'Icdilitb'IIUkbcou.scthcykltc\-elltjObl:.wta\..tabkbCban.C·S-..westoul~fdpMAIMJIIIIr-.:WIOihcbbcrroru.. 

••~o(tbt..,*"plofpcnorw;..puly...WIOibfWiotim.~lilacW•ui:cnweiOlllkbborfom.YJii.cJMt 

l''libbl¢farv.'Oil.Wiu.,ekoktdt'oraP,alkpaitt2ll'ICIIdr&t.:4~101di.IIXIIlplo)-cdJ!hl•.wpdf.-.:WwoRmpkltk014'11pio)\11p.llt 

ll!IX'Ii.lr~f\!asroM.Ma~ora.tbbtwf&:rtt,...all~ ~wtrkm. Tbt..WI»tiDdiollelapmo.to(b.ta:s'r«tflQa 

W..edbfllltx...wiB~of~R~ 

S<ltatr: ll<pntttal<ii .... Bor<oooii ..... SOottn 
69 


71317010.eps

MO\£TARYPOUCHfPORl: 1UtY2017 7 

- 18 

- 16 

- I• 

- 12 

- 10 

Nofi: Thtduawmd~~by2011 Vo:m~w.rlli!IX:lflrtt-=ui~ lla ~ofdltlaborb«.PmoMt4oJt<t.rJn 

irk:bbf».i•lft!pllitotl..ao may bt ol•y ~'flit th»cd lw ...-,a ~of~ l'«'tfSIOI.M&fetd by !he SatioMJ S.U. olfoounit ........ 

5«-ta: [)qwlm:nto(lAbor BWQI.IorLttxt-~ 

This measure can be quite volatile e>-en at 

annual frequencies (and a smoothed ~rs on 

is shown in figure 5 for that reason). The 

employment cost index- which also measures 

both wages and the cost to employers of 

providing benefits- also was up 2Y. percent in 

the first quarter relative to its year-ago level. 

about 1'1 percentage point faster than its gain 

of a year earlier. Among measures limited to 

wages. average hourly earnings gro111h at 

2'h percent through May was tittle changed 

from a year ago. and a compensation measure 

computed by the federal Rt-serve Bank of 

Atlanta that tracks median 12-month wage 

growth of individuals reponing to the Cum:ot 

Population SuMy was about 31'1 pcro.'11t in 

May. also similar to its reading from a }<ear 

earlier. 

might be tlle mull or a sbiftmg c( boouses or other lyp<s 

Q( tDCOrrt IUlO 2017 in anticipation or a possible CUt ltl 

p<N<>nal income Ill< min. If that is tberut, lb< curmll 

ntimaJe c( comp<~~sat oo gr<l"th in th< first quarter 

might be miscd up on« full data b<eome available later 

tbiss.ummer. 

S. Meast~~<S of dlong< in bowly comp<DS3tioo 

lOll 2011 

l\OTJ·~~oa·lbt~~~ 

fl6ek...,cr.,.,.~ Forlhc~«*llldcr..~is 

crot'ftlrU...a..UCm~IMt!OOidaorMqum;lc!f~ 

ll:lurty C¥tr~~p. d.-. cs "- 12 IUICbJ tcbcl, Jill! lhr data alad 

.... May201 1; 1'oret~Ftd •W1fC<hri!Tad« lbtdD.att 

-~-·~~-..ftmcrot••~pcm!lttt.ttltd 

nomd_,..,lOil 

Stx.1rt Depna~ofa... s.n.orl*lf~Fccb:ll.~ 

8rio(AIJtiA, W.tccC::.W.'Ibf tldtr. 
70 


71317011.eps

Does Education Determine Who Climbs the Economic Ladder? 

lhc pct>isl<!rll gaps in OO>nomic outt>lltl<S by,..,. 

and l.'lhnicily in the United Slates raise itfiJOIUnt 

questions about how pooplc as<md dJCOOlOOmic 

ladder. Education, paniculatly • oollcgo degree, is oiiNI 

secnds a 1>ath toimpt0\edeconomicopporluni1ics. 

Paso ri!Search has !holm ~tal human capittl in the 

lotm ol <'ducat ion and "'P"fiet>ce can ""l>lain a boot one-third of the vari.;nion in Y..';)gcs across individuals! 

Ho""""· "itilc education continues 10 be an impocunt detcmtinant ol lCthc< one can dimb the OOlOOmk 

ladder, i~abt. differenCI!S in eoooomic outCOmes 

aCt06S race and ethnicity remain"'"" ~or ooniiOfling 

lot educational attainment 

Oata en eam<ng> lot 11\0 oohons of young adult 

"'"'""' l.tged 25 to 34) approximotely a grooration apan mnform boch ~"' 8"1" in economic OWOillCS 

and die lack ol S<buanti.ll 'l'""d progr<:$5 fO< 

d~ad\ontag<!d 8""-1" G\« d>e past quarter-cemury 

tfogureAl.lllopleolthis age l)jlially ha>-e limited l"'" ol "'l!k expt<icnce, but """' have complett!d th<>ir schooling. ~ore, focusing on young adul~ 

t. -Camti oandJ•""'~HodcmanQIIOl). •Human Opitillf Polq,• in 8tn)lmin M. fritdm.afl. ed .. lnNI'I~Y ;n AtnMcl·ll.,_,t 1/Dk lot HWNil UplrJI 11>/idesliCan-blidgt, 

M>!!.:MII P®i. ~- 71 ll9. 

A_ P<n:entofworl<cn inropquamltof .. mi"S)' 

>n><>JJI all )'OODg o&llls 

allows us 10 b<tte< isolate lhe <lf«:t of education 

from the inllucnce of otl>Y -.riables, includong 

e.xpcric<tce funhcrmore, rcs<>lrch has shown th>l the 

level oi "'gcs ~early in an indivi<lual's career 

pct>is~ ov« time and in ~ that individual\ 

wage trajectory lor )'eolr'S to oomc.' I he figure shol"' 

the fraction ofoach group that ~s roached ttl(> top 

quanile oi ""mings 10< l"""& adul~ as a 11ilole. The 

black d~~lCd line at25 """"'"' marts the fr>ctioo oi each group that would be in tho lOp quartile if each 

groul) """' eq..ally r"Pff'!"'ltro in proponicn 10 ic; 

populotioo size' Non-lli;panic 111\ites, lot exarnple, •re 

0\'lln<!p<~sented in the lOp 25 p<llcrot oldie ""mings 

distribution of young aduks fa< both oohorl'S, with 

just under 30 1""-of the group in the !OJ) quartile 

in bOO> the 1991-95 and 2011-15 p<riods. Black or 

African Ametican young adull'S are underrq-oo 

in ~"'top qua nile in bodt periods, at about I 5 Jlfll""'t 

Hispania "" lok""'ise underrqnel4!nted, and again 

there <~> '- li~le opro~-etnent Ol'e< tirn•. Asian> 

sund out in toons of bod• high rl'p~tion and 

changes OI'Er time, trough t'-measores obscure the 

very high "-""Is of inequality within lhis 111oup. • 

2. s... ~or"''~~·. P"' ..... w. m.t.oo.. !hat !h. "t'QSt Slart1ng wage~ by a cMort IS~tfd w!Ch 

W>3" bter on. o.dl"' Geolge S.kor, M<h>ol Cibb!. •ncl l1<n£l Hoi111Strom(l994), >JlltWogol'olocyda nrm,• 

QJ.IIU!.ty }Ourn>l of E<ntoomod, >01. 1 09 (' """"""). pp. 921-SS. Fun-. ,_,,.,,.,.,,lhathi&htr 

.::-=------------'-==- NIJCNlunemploy"""r.>"'f.tctdbyatohort.,<olso 

cootl>ted wdll ""'" "''S" ~'" 011; b onstlnct,"" foul U S.audry ancl joM Oi\.lrdo(l991; •n-.. Hfoctdllrjlloot _ 40 eor.-onthet.b...-ot'Wages.,.,,hell\J,.,...Cyde: 

[~do.'llCtfJOOIMJCrODa..;lo<JIN/o/l'oifJQ/{~ 

JS .... 99 V\ugUl<)."" 665-$8; one! I .. 8. Kal1n !2010> 'Ill• 

long-Term l<l>or "'""' Con!eq""""ot' Grod"''"'from Colleg• "' 8>4 Econom~· r.bo<JI (""""""', vot'. II (A;»ll, 1S pp.lOl-16. 

lncxherword,illperoeotclo~ot.ICh<dlh.top 

qv.lnM. !hen that~·· wr•d !he top""nol• would bt 

tlw """ " its Wit in Ill• full popo.jauon. 10 

KO!L DMIMuhpmdiacubkytM YCW~~iiiiiiJI«Iuk*­

.,cllSIO~f~~'ll'l.-,ut.let.~~-6ra 

illtaDt. Thtesht!WbmuqiPIOkq.~ .. ~~k iibiJC!Cioa 

~ .... lStol'oalyThebbd:~llotllllbZSJ'C'C'Cil,lbr 

fnt:ol•ora$pocp._1lftlldbt.•the"f"""ikUcdlftl'f•ta· 

~~-~tolbfq)lllJIIGiaze, 

SouocL vs. c.... 8- c.m.. ~ So>..y, - 1992-lCI6 

4. S..,lorexanoplt, Cl'mtian [. 1\~11« ancl]<firey 

Thompson Q016i, ~NM ~Mqtulity ~ Asion 

1\nlMC.im CIP~~JY That! ~mong WhkH1 Centtt iof Amtncan 

~ tiV.uho~orc CfAP, O.C..OO..lOI. i'ltps:IM-.w. 

amerk"''~""""'~OI6/Il/l0119Sll9/ 

wt~hh·inequ~Jil)·~~siln..ameriatiS-grt~·d~r.. 

~I'TlOfl~ilites. 

ot<lllat~lspo!6lbi<fO<IlleW>~-t<lfl 

onlh.topquonMtoi"''""'~fotaD~boc.lustlh. 

<XImpD!<IIM o/ lll•l""'8 adult pq>ulauon by r:rct one! 

eihnicily is..,. cil.Jn~ng. ••lh ~les bocO<ning a mudt 

""''"'"""•ncl•ll-ppsbeongstable"' ina'"''"8" a WotollheWipopo.jatoM. 
71 


71317012.eps

Overall, t~ representation oll~ack and lli~"nic 

workm in the lop earnings quartile continues 10 lag 

in the later period. This lag in reprcscootioo occurs 

de<tlill' the gains in oducational auainmem-the 

aiticol dril1!f ofin.ltOI'ld incool<!S--that bl.>d<s and 

llispanics hm achieved over time. for bod1 blacks 

and llispanics, d•>shaw achir~ing a bachelo(s 

degree Of higher has doobled cNcr the period of dy 

(figum 6). lioii"''OI; even with these imptOI'COICil~, 

the cduc.ltional auainment gap bc<ween eadl olthosc 

8""4" and 11hitcs pcr<iSIS, hecousc the fraction of 

11iliteS allaining a baclwJo(s degree h<~S ai!O incrc.Jsed 

substantially in d>e post quaner-(Mury. 

N:ross all groops. it is uw d•at coropi<lting a 

bac.J>elo(s degree Of higher roughly dooblo>s """~ 

d~a <X'!Sof md•ing the top 25 percent ol ();)mer< 

(figure Q. This relaliooshi> y eo<robo<ates tl>e 

<:O<Mlnlional wi!dom tha~ for many individuals, a 

college education can indeed represent a path 10 

impM'<d economic opportunities. HcM'C\oer, ~'«~ 

within this group, •~>presentation is stlJStantially 

unequal, with college-Wucoted 1~11e and As; an people 

much rnore likely to achiel'e the top quartile of income 

than their black or African Amerbn ar>d Hispanic or 

Latino peers. 

Here the imerpremion of <N~ Ol'er ume is 

a bit more nuai1Cl'<l, be<:aU!e the 01mll incre.se 

in college allainment among )'OUr>g adul~ implies 

incr~ oo...,.Otion frx crossing 1110 the top quartile 

a/earnings. In the 1991-95 period, 35 percent of 

B. Pcrteot ofyoong adult"'idla bachelor's degree et 

hi$1>« 

.... "-•"" -1......- - ~ 

= 

~ -: •lol< -

-~-: 

-~ 

........ ~ 0 

l'Ont O..«~~~'a'lhepr«alasakadarp. ''•sflllllllinrlll&*-

reolll•l4 

Scua. U.S. C'nuw. lkml, <'urtml ~ Stn"f)', Ma«b 1!92-2016. 

MO\£TARYPOUCHfPORl: 1UlY2017 9 

C. Pcrttat of ~~o'C)d:c11 with a bacbC'Ior's degrte in top 

quanile of'""""" UDOIIg all )~llllg a<hllls 

10 

~ l*I(Oio'ft'lbtl'lf«tdiila:~>'*- YCC~~C1611111111CWt6ost 

apf~1031 t.lillli)•Wc···~~~.-.~­ IIIC'C*. 'TllrR*IIdforcrw.c-ibtiOp...,pqudik•'-'cl• •'VflcnapdU~31oa2y. 

Scua. US. C'asua ~ Om..l Pllptlabca Sa\ 'C)'. M.wdl 992-::~)16. 

d>OSe in the top inoomc quanile had only a bachelo(s 

degree. and an additional14 percent had gooeon 10 

rt:<rive a graduate lkgrce. By lhe txriod irom 201 1 

10 2015, these shares had risen 10 42 percent and 

24 percent, C!fJE'(Ii\~ y, suggestilg that the <M'f>ge 

skilllei'CI needod 10 read• the top quartile oi iriCOOie 

has in(r()<~So<i bcti1Wl gcner.Jiions. 

Taken togc<her, these observ.~tions show that 

oducatiooalattainmcnt can help )'oung adults ilopro\'f 

d-.eir lifetime earnmg poteotlal. Howaer, increased 

lel.>ls oi edue>tional attliMlCfltacross all 8""4" ha1" 

crcall'd greal<f oompctition for positions at tlrelllp of 

the ccooomic ladder. [\'en amoog those with oollcgc 

degrees, impomnt diff«roccs remain in rcpresent>tion 

at the top ol the inoon>e disuibution by race and 

cdmicity. The relaliooship bc<wren educational 

attainment and economic outcomes i; oomplcx and 

he<erogeneous aaoss people, suggesting that d>e 

spccifr<: nature ol that auainmenHhc typeS ol dcgt<'<!S 

recei•'l<l and tl>e specifoc: schools auentled, among 

ocher iactors- m;ry man.< much more than fl«"'iously 

d>oogh~• 
72 


71317013.eps

-· 

--~"'-I""QI<I"'""-Iy""""" a..,.,.t-QI<I .. ..., yev <l ll•,..... nor,.,.,.~. 

"""""""~QI-lOilj)l 

S<:UO.: ~of!Mor.~ofUb:ISu~Kb«. 

7. Chilllg<lnlbepnreinde.dorpersol\11<IOClS1XllpO<ll 

<xpcod"""' 

T«>l • J.O 

- ( \., L.-l»> 

~ I ' ... _ 

I, ' I J. 

li • 

- I "' 

-l.S 

-10 

- I J 

1.0 

lrilllllrel- w - J 

2010 2011 lOU :'Oil 2fll4 lOU 2016 Jll7 

~ Tk cbca o.:lc.d-.. '-'at 2017; dunJ!IIft hal ODr: )U 

"""' SOtn Forllllll0led~~~a&fc!6cn1Raen-ca.to(tllllM;fof•«Ur. 

U.SDcpan~~~a~~or~8ureaz <I!X~Aoalyas. 

•.. and likely restrained by slow growth 

of labor productivity 

These modest rates of compensation gain 

likely reOectthe offsetting inOuenc.JS of a 

tightening labor market and persistently 

11\'ak productivity gro111h. Since 2008, 

labor productivity has increased only about 

I percent per year. on average. well below the 

average pace from 1996 through 2007 and 

also below the gains in the 1974-95 period 

(figure 6). For most of the period since 

2011, labor productivity growth has been 

panicularly 11\'ak. although it has turned up 

in recent quaners. The long,:r·term softness in 

productil1ty growth may be partly attributable 

to the ,harp pullback in capital investnJ<:nt 

during the most recent recession and the 

relatil~:ly modest rebound that followed. But 

there may be other explanations. too. and 

considerable debate n.•mains about the reasons 

for the general slowdown in productivity 

growth. (For a more comprehensive discussion 

of productivity, see the box "Productivity 

Developments in the Advanced Economies.") 

Price inflation moved up bul softened in 

the spring and remains below 2 percent 

In the early momhs of 2017, consumer price 

inflation. as measured by the 12·montb change 

in the price index for personal consumption 

expenditur.:s (PCE). continued its climb from 

tbe very low levels that prevailed in 2015 and 

early 2016 when it was held down by falling 

oil and import prices Indeed, consumer price 

inllation briefty reached the FOMC's 2 percent 

objective earlier this year before falling 

back to 1.4 pero:nt in May (figure 7). Core 

inflation. 111lich typically provides a better 

indication than the headline measure of where 

overall inflation will be in the future. also was 

1.4 peroent over the 12 months ending in May. 

a slightly slower rate than a year earlier. As is 

the case with headline inflation. the 12·month 

measure of core inflation had been higher 

earlier this year, reaching 1.8 percent. Both 

measures of inflation have recently been held 

down by steep and likely idiosyncratic price 
73 


71317014.eps

declines for a few specific catego ri c~ including 

wirel.:ss telephone services and prescription 

drugs. which do not appear to be related to 

the overall trends in consumer prices The 

12-month change in the trimmed mean I'CE 

price index- an alternative indicator of 

underlying inflation produced by the Federal 

Rescfl'c Bank of Dallas slowed by less than 

ovcrall or core I'CE price inflation Ol'l!r the 

past sc1<eral months. 

Oil prices declined somewhat but remain 

well above their early 2016 lows -.. 

After rebounding from theirearly2016lows. 

oil prio.'S leveled ofT early this )<ear (figure 8). 

Since then they have declined somewhat. 

despite OPEC's deti~on in late May to renew 

its November 2016 agreement to reduce its oil 

produ<:~ion, thereby extending the November 

production cuts through early 2018. Reflecting 

lower crude oil prices. as well as smaller retail 

margins, seasonally adjusted retail gasoline 

prices have also declined since the beginning 

of the year. Nevertheless. prices of both crude 

oil and retail gasoline remain above their early 

2016l1lWS. and futures prices suggest that 

market participants expect oil prices. to rise 

gradually in coming year~ 

... while prices of imports other than 

energy have been bolstered by higher 

commodity prices 

Througbout 2015. nonfuel import prices 

declined because of appn.'Ciation of the dollar 

and declines in nonfucl commodity prices 

(figure9). Nonfuel import priecs.stabili7.ed last 

year and have risen since then. as the dollar 

stopped appreciating and supply disruptions 

boosted world prices of some nonf uel 

commodities, especially industrial supplies 

and melals. ln recent months. depreciation 

of the dollar has further pushed up non-oil 

import prices which are now slightly higher 

than in mid-2016. 

MOS£1AAY POUCH!POIU: JUlY 2017 I] 

8. Bltlll '~"' and fu<un:s prices 

- llO 

- 110 

- 110 

100 

!0 

10 

10 

10 

so 

JO 

- 111 !!,, I "!~tt!!!t!l 

2012 lOU 2014 lOIS Z016 2011 

Nm. nr &u ~ •'«kly .. mtC~ d ~-.,.a c.dellf ftwou.sb lolyS.l011 

SOC.w:r:lffldEX, ... ~ 

9. Nonfu<l impott prices and U.S. dollarexdl311gt r•tt 

llO 

t:l>- - 110 

110 - 10$ 

- 100 

- 91 

lOll ~12 2013 l014 lOIS 2016 l)l1 

~ 'tkdaui~rtlllmlbly,~lhtcblailrnadie1lllfOI'piYtSt..\ldld. 

.....,~.~.,.ll>tl 

Soaa: ~otl..abcr. e.ttaorl.m'~JI.JC:Si. Fedcr:allesm"t 

-"""""'""-ll.l~'f ..... t.--.· 
74 


71317015.eps

Productivity Developments in the Advanced Economies 

lheslow p.>ce of U.S. produelivity gro~1h has 

~ttractm much atlootion of late, widl vi~rotti dcba1e 

on wrethotthe slowdown «:p«!SCSl~ the lingering, 

buttcn .. >oraty, cffoct ofth<: Global fi~Unc al Ctisis 

tGFOor n1.1<1.~ dlOstart of an era of prolonged ~"' 

«<OOfflic growth. This discussion reviews r<n'Ol 

produelivity &\'l'.lopmonos in the United Stales ard the 

m.ljor advane<d foreign economies (Aff•J and outlines 

possible QIJS(S or til! slowdown.' 

o,., the p.lst decade, lobor prodU(til•ity p1h 

in advanced «:DDOmi<s has wcak.....t markedly 

tftg""' AI. I abot productivity gr<ll'1h in diC United 

Slates has """gcd only I percent sino' 2005, aboot 

hallthepaceofthc yeatS 1990 to 2004! Pro<lucuvity 

growth has beEn~ wc<~k« in d>e AF£5, with the 

United King<lollt e>periencing a n1e.1ger V. f""'''t 

growdt. As shown in the table, the ~o.ad 

slowdown in labor productivity growth rellecos weak 

capital ~irtg and, mcxe i...,orttlldy, '<el)' poor 

peri~"ce of101.1l factor produoivity tUPJ-

' measure of how <lfioo~ly labor and e<~pita l are 

ro•rhioed to produce ootpot.1

1FP across diC advanced 

t. &n.'lling marl«< <OCifl()mi" M< •l>o"""""""' 

d•d"" in proouc:IN•ty &""'"' "'ltCOrlt l""' •111""81> ""~lyfCif lht!Oillt It~"'" lllt•IM.ra<l E'COI'Kinlie$. 

2. H<tellbotpnxb:tivltyisme""""'""'"'ll&""' ~kp-odocl pet hoot, WI COOI13~ 10 lhe busil'li!!6-S((f()l' 

measure $OOwn an thto rm1n lex!. Prorh21.,1typ1h Is faster 

~nlhebuS!fle$$stelOt. 

3. C.ptl.>lci<epenillgftiMtOincre .... <tlhe-</ apitllper•'«i«. 

-----I.J 

-2.0 

- lJ 

- lh 

t-"011: bba~niY-~IffNip'OU--pl(dKfptr 

....... t.L 

SO<"" D<C-Bood.T""Iio>morAccounting for labof produCIMty growth, 2005-2016 

( ....... 

Udte6Klngdom 

~"YI~I~ ,.,... ~; .. _poducrioiiJ 

I 7 J 

.l} ·.1 

9 0 

7 

5 • 5 

0 

0 

Croo«u~tty•\W• 

200$-2016 .. 1991).1004 19 ll 

OOlOOnties has stag~Uted in the past decode against 

hisoorical a1mge p1h ofaboot 'I< pcrcenL 

A number of potential e>pi.Jnations ha\'0 beEn put 

lonvard for the abysma I pcrlormance of TFP. Some 

authoiS emphasize structural factors that ptedall) 

theCFC. forexample,Gordoni2012/S<'<lSitQlllt 

tedtnologic:.l advances such as infotmation tedtnology 

tlfl as less rc.wlu1ionaty than earl"' gcner.~I'Purpose 

technologi<s like cli'ctticity ard intrmal rombostion.• 

Relatcdly, r ernald (20 1 S 1 provides evidence that 

theelfe<Js of the IT rewlution-an important f.lCIOr 

boosting llroducti,ity ~""' ~"' 1990,;-bogan to fade in Ole ea•ly 2000s' l!ICre are signs, ~""'-". d1.1t the 

inOucnce of T~ soli spreading. as .,.,..,rifted by 

the sutge in cloud-oon~uting tedtnology im'<)Stlltents 

in roo!flt )'Oal$, a11d ~~~ '"'Y not yet hm re.ped d>P 

full booefttS of th~ major technological ill~ion. 

Under this more optimiltit: view, slow TTP gro11~1 '"'Y 

rel1e<t a ""'P""'Y 'producti'" I""""' as firms ~Jend 

~on acti,ni<s ~J<h as ..,;pm.nt re<ooling, 

reorganization of m.lnagerncnt praaioes, and 11-oMorce 

trainittg. Aft« all, it took sweral dec>des for th<:full 

effect of elecuicity 10 mate<ialize.' 

~- Roben/.Cooloni20t11, 'I•V.S. (""""'icCrowill O..rl r.l!tring lnnovaOO. Conlroru iht S• H..UWindl.' 

\ 8(RV.'<><'<ong Paper S..•• 183tS (C.mbrodse, '""-' '\~t•on.d 8treau d konomirc Rete•rth.AI.lgusQ. 

5. fohnG.F""'Idi101S.·ProdudJ••ty>nd~e"''l 

OUqtutb<l<n, d~ ond '"" llle Groat -....·In )orwillan A. Paol:" ond Atd»el Woocford, <do .. NBlR 

M~Mrlwl101j, vol.l9tChicago:l!n...,ityd 

Chocago~,fll.I-St. 

6. fora~.on<iihtlengt;,ol""""<icltf""on 

olel«:trifoattoo, ~« Pool A. D"id t 1990). 'lht Dynamo and d10 Corrjlwr; An Ht<orlalil!"ff'Ct•~ on the Modem 

i>nxb:t•o<yPorado~· AmMan f'"""'* ~~e,.,.,.. wl. 80 t>Uy), pp. 3SHI. 
75 


71317016.eps

Olhor ~lan.1 ions blan10 the weak TfP gro"1h 

00 the unusual SC\'Crity ollho ere Some <mpiric.ll 

C\•ideoce suggcs<s du1 the •Schu""""'"'n • process 

in ~>idl \\ukcrs """""'1111rd higher-produCiivily 

f11111s-;~ k<y sourtc ol1>roductivity gm>~1h following 

f>""'ioUS II!CCSSions-j,iiS been greatly imp.airod since 

!he GFC.' In addoion, mwures of inno.,a<ion such 

as resc.1rch and dC\'CiopniCIII (R&Oi SjlCflding fell 

sh.lrply during the ere, .. shown in fJ8ure 8, partly 

in response 10 tight fmancial ooodilions and weak 

demand. Dcclin<S in R&O lend 10 indore gradual and 

f>'!l'islcnt declines in TFP, .uggcsting that the rcccn1 

lowTFP gr0<11h may in p<~rt be1raced 10 eFC-indured 

weakness in R&O'In tltis vielv, the rcwo pidup in 

R&O !p('lding «l<rld anticipate some nu~~~;~lizatioo 

in productivity gr0<11h. finally, the $10<11lo\\11o>lfP 

grw1h may also be n>la!Cd to tl¥l siolldo"" of global 

trade in the wake oltoo ere. Conl<entionalltade 

theories suggest d>at great« trade iruegra<ion ~10\lld 

bring productivity gains by facilitating the diffusion 

ol new tedlnologies and by •!lowing counuies to 

specialize in d>e production of goods for whidt they 

h.lve a <Ofnp.arati'" advantage-"'"" d«ades ol steady 

incr('~$(51 we!\~, trade integtation awe:us l() 1\4\ot 

plateaued in reoo~t years !f.gure Q. 

lnlllm, it~ diff~ult 10 oomin w~ lh<' recent subdued perlormance of labor productivily 

rop<esen<s a new normaL Some of the CfC·relatod 

laCIOrs """'ining productivity growth may eventually 

fade, ltadmg 10 a rise in productil·ity grw1h from its 

anemic post-CfC rme. Hoi'"'"· 10 d10 e1<1e<~ th.lt longer-run faCI<>rs sud> as the 110ning effects ol the 

IT reYOiution are ill ~productivity 8""''h in the 

future may be no<iceably below hislorical 3\'Cfllges. 

Sustained low rail'S ol productivity gm••th would 

greatly restrain the inprO\'<Inent oi living standatds. 

In addition, ~ICY would pul dO<\Tiward pressure on the 

7. S..luc" foloer, a-..,1 Cnm, •rd JcM tbltnv"'S" 

Q016), "Ro.lloc.~tioo on lh< Gm• Rt<:ess""" Clt•m!og et 

\Cd" }oum.!lcil>botCcont>llli<$, 1<1.14 {SI,J.>nu>ry• 

pp. 5193-SlJl. r.. an •nolysosollh< rol•ol """''' bbor misallocouioo in KCOI.IIf•'l for dW' proOOa,., 11y JICI'IIdoovn 1n 

lh< Unot<d (Jngdom,,.. Chnsllno Pattenon. A)1<$UI ~hin. 

CiolJio lop>, •ndCi..,nni l. Vool.n~ttl0161, "1"'-'<tng H"d 

In the Wrong Plott: A Mosm.11d>8ued !"""""ion 10 lh< U.K. Produr:ti'l'lly P\azlt,•Curoptltl Em10m1e P.mtw, vol. 64 

tM<1)1,pp.42-S6. 8. S.. PMclc Moron •nd Al>tn Qu<nlto (20t7J, •~t~nov.uiOn ;and the Pro<LaN!I)' Gro\\th Sklwdowfl, • 

urpbllll>tdfl'P'\M>y."""""""AI•-

'""'"""""""""',.,.'n:l>-'b<n-quero~aiMQ_ 

M>yl017j)lf. 

M0'£1AA'i POIICH!POIU: JUlY 2017 IJ 

long-run"""""' intcresl "''"' mal<ing !he p<>li<y "'" IIIOfe likely to reach its <liectii'C lower bound and lhus 

coostraining the ability of moneury p<>licy 10 pnwide 

oconomic s<imulu~ "'""in the presenre ol shalkm 

rc<:CSSions. 

-IS 

10 

- j 

-10 

-IS 

tm 

NolL ~Adv.aDCC'd iRip «CaaOQ)' ,. .. • die .. .a nllP for 

Cad&, .. lbtNO~..albti!MedKifl&dca.L.S.dMa rd(fiiOral. 

.-a~c~:~~(IWli~Adnoco!r,.,..cmmyd&l 

rd'ctiO....aiUO .... {•~CVWIICJ)jd!Mby6t,_ 

......,...,.,.((lOI')<Idl.o> n."""""",__lt_ ll'ICCNIOII«Iile4•SSpm'QIIQCW9rii!GI>Pw~ 

Sctwt.~of'C<II!IIji(:R'(,Sc-.of&oar:.itAMtys:iiiOr6c: 

IJ1111ed 5-.; ach-.:ef fomp ~-... ~ r.o.OECD SoCII«·, TcdacJktyllld.RAD~*1.2'011:~diloa 

r .. r-c,.to ....... .._(Kll, 

.~ f?.~ ,I , ~. 1980 19&S 1990 199S zooo 20QS :010 

-

" -10 

-!l 

-26 

-2• 

IJ 

-ljl 

- II 

- 11 

· 14 

I I lOIS 

Noalk4-..,lwt.*-pcnod$of~~~• 

S5pm:and't.<IWJ'C*dr:.soc~·~on. 

SCI.ICI. W«W~~Wc:QIB:d;.~dluJR 

&o.F.<GIOinit()dtll.dtadti.-.(ECRI). 
76 


71317017.eps

~) 

-· 

l!!!tlqt! q t 

'6111 l<lll 

SPF_...., 

X.on.tiO)Qf 

lOU 10 ~ )011 

- I 

l.S 

- l.G 

Jj 

2.0 

Jj 

- 1.0 

~1\tliDart'M'd.ty •\~O(dlft~&lll.andOICaiJifwuiJII 

Mt30.21> 1.TIPS•T~WWJ~S«wfuu. 

Scai:L f<dclalllacnl'. W ofMw 'l'«k; BNd&ys: fcdconl Jt.t$CI'it 

bd5d~ 

Survey-based measures of inflalion 

expeclalions are lillie changed 

lhis year ... 

E,,pectations or inflation likely influence 

actual inllation by affecting wage- and price· 

selling decisions. Survey-based mcasui\.'S of 

inflation expectations at medium-and longerterm horizons have remained rela1ivcly stable 

so far in 2017. In tbesewnd-quartcr Survey 

of Professional Foi\.'Castcrs conducted by 

the Federal Reserve Bank of Philadelphia. 

the median expectation for the annual rate 

or incl\.'3~ io the PCE pric.: indc., over the 

next 10ycarswas2.1 pe~nt.thcsame 

as in the first quarter and little changed 

from the readings during 2016 (figure 10). 

In the Universily of Michigan Surveys of 

Consume~ the median value for inflation 

expc'Ciations over the next 5 to 10 yearswhich bas been drilling do"·nward for the past 

few years- has held about Oat at a low level 

siOCI! late last year • 

. . . while markel-based measures 

of inflation comptnsation fell back 

somewhal 

Inflation expec1ations can also be gauged 

by market-based measures of infla1ion 

compc'llsation. though the inference is 

not straightfom-ard bo.'Ca ~ inflation 

compensation can be importantly alfected 

by changes in premiums associated witb 

risk and liquidity. Mcasui\.'S of longer-term 

inflation compensation-derived either from 

dilferences between )~e ds on nominal Treasury 

securities and th<1SC on comparable Tl\.'aSury 

Inflation-Protected Securities (11 PS) or from 

inflation swaps- have fallen back sonrewhat 

this ~r afier having mol'ed up in late 2016 

(figure II).' The TIPS.bascd measure or 

l. lnftatton oompens:nion nnptied by lh< TIPS 

bft:akt,'<'n inflatioa rate ts based on thedifferm«, at 

001Tf3rable rnaturitits, ~tv.wn yields on nominal 

Treasury s=nties and )'ltkis on TlPS, ~~id! are indtxed 

tolh< beadlineconsumcr pnce mda KPO.Inftotion 

swapsareoonllacts in ~hid! one party mal:es JlO)lll<lliS 

of certain fb.td nominal amounts in exchange for cash 

ftcw."S that art mdexcd to cumulaU\'e CPI inftatloo oa."er 
77 


71317018.eps

5-to-10-year-forward in Ration compensation 

is now 1¥. percent. and the analogous measure 

of inflation ;waps is now about 2 percent. Both 

mcasui\,'S are weU bclow the 2\1to 3 percent 

range that persisted for most of the lO ~ars 

before 2014. 

Real gross domestic product growth 

slowed in the first quarter, but spending 

by households and businesses appears to 

have picked up in recent months 

Arter having moved up at an annual rate of 

2¥. percent in the second half of 2016. r.:al 

gross domestic product (GDP) is reported to 

have increased about I \1 percent in the first 

quarter of this yw (figure Jl).J The step-down 

in first-quarter growth was largely attributable 

to son im-entory investment and a lull in the 

growth of consumer spending: in contrast. net 

exports increased a bit, residential investment 

grew robustly. and spending by businesses 

surged. Indeed. business investment was 

strong enough that overall private domestic 

final purchases- that i~ final purchases by 

U.S. households and businesSI.-'S. whi(h tend to 

carry more signal for future GDP growth than 

most other components of overall spendingmoved up at an annual rate of about3 percent 

in the first quarter. For more 1\,'rent months. 

indicators of spending by consumers and 

businesses have been strong and suggest that 

growth of economic activity rebounded in the 

second quarter; thus, overall activity appears 

to have expanded moderately. on averng11. over 

the first half of the ~r. 

lOme borizoo. Focu~ng oo mftation rompcosauon 5to 

tO years abead is lll<ful,parlicularly for monetuy policy, 

because socb forv.--ard measu.rtS encompass market 

participants' \icws about where infta.tioo n11l $¢\lie in the 

IOII$1<rm aftct de>"<lopmcnts infl11<oaog inftation in tht 

sbon term ha\-e run tbar ooarsc. 

3. Real 81"" domest< income (GDI ~ •il<b " 

conceptoally tht same as GOP but1Sconstrul1ro from 

d11Tmot lOUr« data. had betn ri~g at roughly the sam< 

mte as real GOP for lllOS1 of l0t6. HO\l\'\"<r, real GDI 

was bdd OO.u by tht 1<1)' •-cal< reading for personal 

inoome in lhe fourth quarlcr ol lasl )'tar. wbkb may 

pi'O'o't to bil\re betn transito~ 

MOS£1AAY 1'011CH!POIU: JULY 2017 t 5 

12. Cb"'ge in real gJOSidomeslic pro&lct and gross 

domi.'Sritiocomr 

---- ·---

~ ... - -S 

_ , 

- l 
78 


71317019.eps

il. Cbmgc m real persoool comwnpllOO exp<Ddinm llld Wsposablt pcnooal illrome 

- 6 

- s 

HI - .a 

-l 

-! ~--~ .. ML --- 0 

- I 

- l 

_ , ~_J....J.~ 

Mil 2011 :Oil 2014 ~U. 2016 1017 

Noa: nc,:atucs.ror~llilliMl'1k••v.ahd~~~ 

Soua; .... ofc-act.811taof~Wysis.. 

14 Pnces of""'~ smgle·fam1iy booses 

- 20 

- ll 

- H) 

- s 

- H) 

- IS 

- :!I 

I I 

Nmr n.tda&a(atihts.tPOsit-S2uUcr.lldontttld~Apil2011. 

n.'*"'r.rlhtc~""z.lloo""""'"""'....,.MoylOil. 

SO<'''" c..too< 11<ow "'"' '""'· Lllow; wt...- c.~ ~MJCUU.CPnttlodo.lhrW<:~lobisaprodwtofs.tP 

[))w koef IUm U.C 114« IIi aliblks.. (for Doa· .ko:s ladlca 

litt.aflaa~~lheDCUooflt{'_._p.1tt.) 

IS. 1\ocninalboosepricesandpnce m>lrntio 

- ltt \ /_,. 

=' J -

- ,,. llf [~ - !If 

- I<* 

- . 

- " - - ~ ~-JJ.... U ... I..J ... L.dl.ti! •II I 1910 lfilJ lfJ6 1999 lotl :IXI521X1l011 ZOI~ 1011 

-n. ... .-""'d>!lo)'lO!T.tt.c..tcti<p>C<-· ~~~FC'ihllttim't'lloWs&atllkpriet-«unriod 

lbt.11110 tl ~bso~IOkCUIN!r.'lCJf'l«tllktofmd 

sm-y~ lk .. aitbcdto t«<i1..._,.20((1 

Scua: F« pncu. Ctw:Lc,ic: Itt M*. 0cp.-. of lAbor. 9Mall fl uo.s-x.. 

The economic expansion continues to be 

supponed by accommodative financial 

co di ion~ including the low coS! of 

borrowing and easy aoo:ss to credit for many 

households and businesses. continuing job 

gain~ rising household wealth. and favorable 

consumer and business sentiment. 

Gains in income and wealth continue to 

support consumer spending ..• 

After increasing strongly in the s.'COnd half of 

2016. ('Onsumer spending in the first quarter 

of this year was tepid. Unseasonably warm 

~~~a her depress.'d spending on energy service~ 

and purchases of motor vehicles slowed from 

an unusually high pace late laS! year. I towevcr. 

household spending seems to have picked up 

in more recent months. as purchases of energy 

services returned to seasonal norms and retail 

sales firmed. All told. consumer spending 

increase'<! at an annual rate or 2 percent 

over the first fi1<e months of this year, only 

a bit slower than in the past couple of years 

(figure 13). 

Beyond spooding. other indicators of 

consumers' economic well· being have 

~n Slrong in the aggregate. The ongoing 

improvement in the labor market has 

supported further gains in real disposable 

personal income (DPI}. a measure of income 

after accounting for ta.,es and adjusting for 

inflation. Real DPI increased at a solid annual 

rate of 3 percent over tlw first five months of 

this year. 

Gains in the stock market and in house prices 

over the fir>1 half of the year have boosted 

household netwc>alth . Broad measures of U.S. 

equity prices hlii'C continued to increase in 

recent months after moving up considerably 

tate last year and in the first quarter. I louse 

prices have also continued to climb. adding 

to the balance sheet strength of homeowners 

(figure 14). Indeed, nominal house price 

indexes are close to their p<.>aks of the mid· 

2000s. 11011\.'l'er. while tbe ratio or bouse prices 

to rents has edged higher. it remains 11~1! bdow 

its previous p..'ak (figure I 5). As a n.'Sult of the 
79 


71317020.eps

increases in home and equity prices. aggregate 

houscllold net worth has risen appn.'Ciably. In 

fact. at the end of the first quarter of2017. 

housd1old net worth was more than six times 

the value of disposable income. the highestever reading for that ratio (figure 16). 

Consumer spending has also been supported 

by low burdens from debt service payments. 

The houscllold debt service burden the ratio 

of requin.'ll principal and interest payments 

on outStanding household debt to disposable 

income. measured for the household sector 

as a whole- has remained at a very low level 

by historical standards. As interest rates rise. 

the debt burden will move up only gradually. 

as most household debt is in fixed-interest 

products. 

.•. as does credit availability 

Consumer credit has continued to expand 

this y~ar but more moderately than in 

2016 (figure 17). Financing conditions are 

generally favorable. with auto and student 

loans remaining widely available and 

outstanding balances continuing to expand 

at a robust, albeit somewhat reduced, pace. 

Even though delinqucn~-y rates on most types 

of consumer debt have remained low by 

historical standards. credit card and auto loan 

delinquencies among subprime borroll'l!rs have 

drilled up some. Possibly in response to this 

dcterioratingcn.'llit performance. banks have 

tightene-d standards for credit cards and auto 

lending. Mortgage credit has remained readily 

available for households with solid credit 

profdes. but it was still diffiCUlt to access for 

hous..o!1olds with low Cll.'dit scores or harder-to· 

document incomes. 

Consumer confidence is strong 

Consumers have remained optimistic about 

their financial situation. As measured by tbc 

Michigan survey. consumer sentiment was 

solid through most of 20 16.1ikely reOccting 

rising income and job gains. Sentiment mOI'ed 

up appreciably after the presidential election 

last November and has remained at a high 

level so far this )'l'ar (figure 18). Furthermore. 

MOS£1AAY 1'011CH!POIU: JUlY 2017 17 

16. IVcaltiHo-mcOOle rono 

- .... 

-10 

-SJ 

- 10 

1991 200l 20M 2009 !OU 2011 

Non:. tht$CfiC$iafbe..Oof~-.,uthtD~pcocM1 

....... 

Scr..'JJC.'E f« 11r1 WUih. Fakol R.escnr lkwd. Suat.:.l Rtkw 2.1, 

"'f!IUCI:ial ACC'JOUMS or k t:llll:d S..'"; b uomr, ()epnltat of ('OIIIIIItftt,'Bcmlof~ie~it. 

t 7. Cboogt! ID bous<-boJd dcbl 

·""'- - 1.000 • C'on..ucmbl 

- s.. 1110 

Ql 100 

AOO 

lOO ; 

0 

lOO 

AOO 

100 

liiOl 2009 !V11 !VU !VII 1017 

~ ChMf::s ,ft ~cd rr. )U.S 10 rt•<Od (.U'q'l 2011 cbl£d, whidl .rtealoUitd fromQI toQI 

S!un. Ftdml ittsM'( &o.d, ~ ltfeut Ll, "F~~Urtlll 

A«<W:Jo(lbei.ID!Itd.S!Acs· 

t S. lotlcx" of COJJSWJlef scntim<m aod iocome oxp«Utioos 

... 

11t 

911- ~-- ,_ ... ·- - ,. 1t- - 8G 

60- - i't 

-Ot 

!4- c-...... _,. 

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oisun")'~~~Miy~IOJ01P~INI~ 

4ri~Jfltnc:uJQtartwepa.l«<lllf•.,.11*'& ...... ,.tal ...... 5(u:(t: ~oi)IICb;pG$cr.~ofConM!m. 
80 


71317021.eps

19. New and <XJsting home "lcs 

._ ....... 1.> -

,, _ 

10 -

- 11 

- u 

- I< 

- ll 

- u 

- ~ 

- . 

Noll: Tkdlelc:delld~.MI!<lGI7 ti~balleNks•llllbQI!y .floOlr .. ,.~ ........ lolob ... r.;!y . ...... .-ttane.-.4co-op. 

hiCE For otW liMe: Nlar. CCMUS B~tta fer ellstlllJbot sab,. 

K.U~o!Rl'illlc:G 

..... .... 

,_ - lOS 

- liS 

~-I&S - 145 

·- - llS 

- lOS 

l - - IS 

X(l9 2011 2013 i'!IS 2017 

""" no """" ar..w.a.y - '"" .. .-Jr ""'&'& AprjlOt1, aodlbe..XWiaiC ... IR~IIcJitb}Qly6.20 N. 

anifdex'h!J;,to(IOO,amtd~&Mily .. rudly~.cmclll 

qoobfrlor•~ __ ,.. JWI04bybdiUIT .. --·"-..r-..,.. SOlm...fotbcv.iul&llf«ddbitll)'lllda,t\.uloQal~r:lleJborl.; 

r.r.._ ..... r ..... Mwp._w._-s.-.., 

21. PIIV3Ie houSilJ8 ~311s and penni~ 

- 2.0 

- ll 

It I I I I I I I I I ! I 

lOOO lll01 11:111 lOll lOll lOll lOll 

Nm! 1\ltdllanltbddn•gUI¥flOU 

Scut:t Oq.nmtl'llciC~ 811Mar:llkC.-us 

1he share of households exp.:cting real income 

tO rise o1·er the next year or two has gone up 

markedly in the past few months and is now in 

line with its pre-recession level. 

Activity in the housing sector has 

improved modeslly 

Several indicators of housing activity have 

continued to streng1hen gradually this ~ar. 

Sales of existing homes have gained. on net. 

while house prices have continued to rise 

and mortgage rates have remained low. eve.n 

though they are up from last year(figures 19 

and 20). 1n addition, single.family housing 

stans registered a slight increase. on average . 

in the first five months or the year, although 

multifamily housing starts have slipped 

(figure 21). Despite the modest increase in 

construction activity. the months· supply of 

homes for sale has remained near the low 

levels seen in 2016. and the aggregate vacancy 

rate has fallen back to levels observed in tbc 

mid·2000~ Lean inventories are likely to 

support further gains in homebuilding activity 

going forward. 

Business investment has lurned up after a 

period of weakness o • o 

Led by a surge in spending on drilling and 

mining structures. real outlays for business 

investn~nt that is. private nonresidential 

fio~ed im•cstment- rosc robustly at the 

!>.,-ginning of the year after having been about 

flat for 2016 as a whole (figure 22). The sharp 

gains in drilling and mining in the fi~t quarter 

mark a 10m around for the sector; energy· 

~or investment had declined noticeably 

following the drop in oil prices that b<.-gan 

in mid·2014 and ran through early 2016. 

More rerently. mpid increases in the number 

or drilling rigs in operation suggest that 

investment in this area remained strong in tbc 

~wnd quarter of this year. 

Mon:over. business spending on equipment 

and intangibles (such as research and 

development) advanced solidly at the 

beginning of the year after having bc\.'11 
81 


71317022.eps

roughly flat in 2016. Furthermore. indicators 

of business ;pending are generally upbeat 

Orders and shipments of capital goods have 

posted net gains in n.'Cent months. and indexes 

of business sentiment and activity remain 

elevated after having impro'-ed significantly 

late last year. 

... while corporate financing conditions 

have remained accommodative 

Aggn.-gale flo11~ of cn.'dit to large nonfinancial 

firms have remained solid. supported in part 

by continued low interest rates (figure 23). 

The gross issuance of corporate bonds was 

robust during tbe first half or 2017, and yields 

on both speculative· and in\\.-slmcnt·gradc 

corporate bonds remained low by historical 

standards (figure 24). Gross equity issuance by 

nonfinancial linus ta~-ed solid. on average. as 

seasoned equity offerings continued at a robust 

pace and the pace of initial public offerings 

picked up from the low levels seen in 2016. 

Despite the pickup in business investment, 

demand for business loans was subdued 

early this year. and outstanding commen::ial 

and industrial (C&l) loans on banks' books 

conlra~1ed in the first quarter. In the April 

Senior Loan O(fu)r Opinion Sur~ey on Bank 

l<,'llding Practices (SLOOS), banks reported a 

broad·bascd decline in demand for C&l loans 

during the fir;t quarter of 2017 CVI:n as lending 

standards on such loans were n.'(JOrtcd to be 

basically unchanged.' Danks also reported 

weaker demand for commereial real estate 

loans as well as a continued tightening of 

standards on such loans.llowe\'er.lending 

to large nonfinancial fimts appeared lobe 

sln.'Dglhening somewhat during the second 

quarter. Meanwhile. measures of small 

business credit demand remained 11\!ak amid 

stable supply. 

4. The SLOOS is 3\'ailablt on tile llootd's "'"""at 

h11ps11w•w.fedmimm·•gm1dala!sloo<lsloo<hlm. 

MOS£1AAY POUCH!POIU: JUlY 2017 19 

---- 30 

QI - !J 

1Jl 

ll 

- ·~ 

- l 

- ·~ Ll .__!,_ ..l.-.-.1 ~ 1010 :011 lOU lOU lOit !OIS ;»K !011 

23. S.l«~oo <OOtpocco~ of"" dd>t fi0111Cicg for oonfioancialbus•no.'1S<S 

- 10 

Ql - to 

.. - !0 

_,. 

- 40 

j I I I I I , , I I !, I I 

~ lWil Nil ZOU lOIS 2011 

Sol.:ta: Felcnl R.tsmt 8oan1. Slllistta! Rtltast 1.1, .,..will ~ofkUIIIICdS\Met." 

Tr,IHI 

,. - II 

- 16 

- " ll 

ll.&b )'I(IJ - 10 

- -. ' - ' - -.. ~, , 

- - l 

-- 0 I 1 ! 1 1 I !! I I I I ! I ! 

1999 200l 2(.05 200! 2011 2014 1011 

~1\ty!dil:llowllanflt'.di• O.)Ut.oedL 

Sol.aa: BofAMmiULyodiGiobi!R~M•illl~ 
82 


71317023.eps

2S. Change 10 real11t1pom and «porn ofsoods and services __ ... 

. .._ . .,_ Ql 

- 9 

l

-· 

-: --· 

- l 

2011 2012 1013 WI ~ lOI.S l016 2011 

26. U.S. ID<Io and current acroom balances 

- - I 

- ! 

- l 

-· - s 

-

-· J 

2001 XOl 200S 2001 2009 lOll N13 20l.S 20.17 

l'OO~GD Ur*~fl.,_ 

Socltr (lrc..mt ~~tt.~~~af~AMiysU. 

l:l. Change in real ~•mmeo"' pcndirute1"" 

cooswnptionand iD\'CS'bneat 

2009 1010 2011 2012 2011 201.t 201.5 1016 2()U 

-· 

-· -! 

-l 

_ , 

-· - I 

U.S. exports grew at a faster pace 

In the first quarter of 2017. U.S. real exports 

increased briskly and broadly following 

moderate growth in the second half of last 

year that was driven by a surge in agricultural 

exports (figure 25). At the same timc. n.'al 

import growth declined somewhat from its 

strong pa~ in the S.lcond half of last year. As 

a n.'Sult, n.'al net exports contributed slightly 

to U.S. real GOP growth in the first quarter. 

Available trade data through May suggest that 

the growth of real exports slowed to a modest 

pa~ in the St'COnd quarter. Nevertheless. the 

average pace of export grov.1h appears to have 

stepped up in the first half of 2017 compared 

with last year. partly reflecting stronger growth 

abroad and a diminishing drag from earlier 

dollar appn.>ciation. All told. the available 

data for the first half of this year suggest that 

net exports added a touch to U.S. real GOP 

growth and that the nominal trade dcf~<;it 

widened slightly relative toG 01' (figure 26). 

Federalliscal policy had a roughly neutral 

effect on economic growth ••• 

l'ederal purchases moved sideways in 2016, 

and policy actions had little effect on federal 

taxes or transfers (figure 27). Under curn.'Dtly 

enacted legislation. federal fiscal policy will 

likely again have a roughly neutral influence on 

the growtlt in re-d! GOP this year. 

Afier narrowing significantly for scv ral 

years. the federal unified delicit has widened 

from about ~ percent of GOP in fiscal 

year 2015 to 3V. percent currently. Although 

expenditures as a share of GOP ha\'e b<-oen 

relatively stable over this period at a little 

under 21 percent. receipts moved lower in 2016 

and have edged down further so far tbis year 

to roughly 17 ~ percent of GOP (figure 28). 

The ratio of federal debt held by the public 

to nominal GOP is quite elevated relative 

to historical norms. Nevertheless, the deficit 

rctnains small enough to roughly stabilize 

this ratio in the neighborhood of 75 percent 

(figure 29). 
83 


71317024.eps

.•. and the fiscal position of most state 

and local governments is stable 

The fiscal position of most state and local 

governments is stable. ahhough there is a range 

of expericnoes across these governments. Many 

slate governments are experiencing lackluster 

n:venue growth, as income tax collections have 

been only edging up. on average. in recent 

quarters. In contrast. house price gains have 

continued to push up property tax revenues at 

the local level. Employment growth in the slate 

and local government sector has been anemic 

so far this year following a pace of hiring in 

2016that was the strongest since 2008. Outlays 

for construction by these governments have 

been declining (figure 30). 

financial Developments 

The expected path for the federal funds 

rate nauened 

The path for the expected federal funds rate 

implied by market quotes on interest rate 

derivatives has Oauencd. on net. since the 

end of l><.>cember, moving higher for 2017 

but slightly lower further out (figure 31). 

The expected policy path moved up at the 

beginning of the year, reportedly reflecting 

inv.:slor pero:plions that expansionary fiscal 

policy would likely be forthcoming over the 

near term. but subsequently fell amid some 

waning of these cxp..'Clations as 11\'11 as FOMC 

communications that were interpreted as 

signaling a somewhat slower pace of policy 

rate increases than had been anticipated. 

Survey·based measures of the expected path 

of policy also moved up for2017. Most 

of the respondents to the Federal Resent 

Bank of New York'sSurvey of Primary 

Dealers and Survey of Markel Participantswhich were conducted just before the June 

FOMC meeting- projected an additional 

25 basis point incn:a!l: in the FOMC's target 

range for the federal funds rate. rdati1•c to 

whatlhcy projected in surveys conducted 

before the December FOMC meeting. 

as lhc most likely outcome for this year. 

MOS£1AAY POIICH!POIU: JULY 2017 21 

-26 

10 

- 10 

., 

-JO 

-lO 

Non.: &dDbiJI*-.PI*t(GDP')••·--- Ni6cnl&tcbrld~lbepik~idmldcblb Ta~U~Yt«U'llies 

klrlio*-"cnn~....W-fii~~~-· 

Gld.ol'lk!fldt. 

Sat~~trt«GI». ~ o(("~, &Nil ol~ 

J.oll)..,&wr.lml""'-F~P,...,.Bood,-Rdo.!<tl, 

"f.,..;uiAcCODdlvl~l.lll.kiiS.S· 
84 


71317025.eps

lU 

- 196 

- IU 

- 19J 

19.0 

1009 2011 2011 201s zen 

Nore 1\t ~11'1Cd ~1ft ~lbty and alclllldr:oap lot.,' 2017, 

MII!Wift'lll~daca .-'*"'dy Stl.nNw~-Dcpnnc:ntofl*r.8wt.-aofl.abor 

Sl~bstrvftlm-~cl('~ Bwt--otf.counit 

""""'' 31 Mari:et-ltllplied fcderallimds mre 

- -

- l.S 

- l.O 

_, 

10 

,, 2018 ZOit 

Mn.~ 1\tf<*Dif-"n~tpDu:unpbcdb)'CfiC*'•O\<ftl&hludn 

._.,_.. &n\"MI\~ ((IMJXl cxd 10 fir dl"«t~\'t ft.dml fllllk we. Tk 

....., pD &ll d My 5,1011, iHCIIIJ*td Wllb .. •ofOc«mbc:r 10. 

1016 Thtpldllf.ali•o$• .. ,splw~lfll!IIIIIIIII·ICim~ 

oro.-pcut~.tkdlunldld~Ml»Q-1 

ScUn.: B~Fcwlnltt.e.neilori.nllf'aa-ka. 

32. Yields.., nominal T"""")' """'"" 

~ 

-- 1 

_, 

- S 

-· - ) 

- l 

- I 

I 1 I! I ! I I 1 I I 1 I I I 

2001 2(0) 200$ l001 3»9 ZOII lOU l{)JS lOH 

Non· 1k T.-..ym~ f'lbbc*aoflbe ~ ~ IMO.ii'J)' 

J¢1X$0G Fdxury 18,l((ll...S miUDC'4 Oul ~(Ill kbnwy9. 1036. 

Saxt ~oflhtTI'faUY. 

Expectations for the number of rate hikes in 

2018 1\W~ about unchanged. Market-based 

measures or uncertainty about the policy 

rate approximately one to two yea~ aht-ad 

decreas..'d slightly. on balance. from their ymend level~ 

longer-lerm nominal Treasury yields 

remain low 

After rising significantly during the second 

half or 2016. yields on medium- and longerterm nominal Treasury securities have 

decreas..'d 5 to 25 basis points. on net, so far 

in 2017 (figure 32).11te decrease in longerterm nominal yields since the beginning or 

the year largely reflects declines in inflation 

compensation due in part to soft incoming 

data on inflation. with real )ields little 

changed on net. Consistent with the chang.:s 

in Treasury yield~ yields on 30-ycar agency 

mongage-backed S<'Curities (M llS)-an 

important determinant or mortgage interest 

rates-decreased slightly over tbe first half or 

the year (figure 33). Treasury and MBS yields 

picked up somewhat in late June, driven in part 

by increas-'S in government yields overseas. 

wc,~r. yields remain quite low by historical 

standards. 

Broad equity price indexes increased 

further •.. 

llroad U.S. equity indexes oontinued to 

increase during the period (figure 34). Equity 

prices 1\~re reponedly supponed by lower 

interest rates and increased optimism that 

corporate earnings will continue to strengthen 

this year. Stock prices or companies in the 

technology sector increased nGtably on net. 

After rising significantly toward the end or 

last year. stock prices or banks performed 

about in line with the broader market during 

the first half or 2017. The implied volatility 

or the S&P 500 inde.~ one month ahead- the 

VIX decrea~:d. on net. ending the period 

close to the bottom or its historical range. (For 

a discussion or financial stability issues. see 

the box "Developments Related to l'inancial 

Stability.") 
85 


71317026.eps

.•. and risk spreads on corporale bonds 

decreased 

Bond spreads for im-estment-and speculativegrade firms decreased. and spreads for 

speculative-grade lirms now &~an d ncar the 

bottom of their historical ranges. 

Treasury and mortgage securities markers 

have funclioned well 

Available indicators of Treasury market 

functioning remained &table over the 

first half or 2017. A variety of liquidity 

mctrics including bid-ask spreads. bid 

sizes. and estimates of tran~cti on costseither improved or remained unchanged 

over tbc period. displa)1ng no notable signs 

of liquidity pressures. The agency M IJS 

market also continued to function wcll. (For 

a detailed discussion of corporate bond 

market functioning, see the box "Recent 

Developments in Corporate Bond Market 

Liquidity.") 

Money market rales have moved up in 

line with increases in the FOMC's target 

range 

Conditions in domestic shan-term funding 

markets have remained &table so fa r in 2017. 

Yields on a broad set of money market 

instruments mowd higher in response to the 

FOMC's policy actions in March and June. 

The effective federal funds rate generally 

traded ncar the middle of the target range 

and was closely tracked by the o1·emight 

Eurodollar rate. The spread bctll\.'ell the 

thl'l.>e·month LIBOR (london interbank 

o0cl'l.'<i rate) and the OIS (01~rnigb t index 

Sllap) rate has returned to historical norms 

over tbc first half of 2017, dt'Ciining from the 

ek~'3 ed levels that prevailed at the end of 

last year around the implementation of the 

Securities and E.~change Commission money 

market fund reform. 

MOS£1AAY POliCY IU'PORr: JUlY 2017 23 

.... 

1-

,_ 

,_ 

--- _.,. 

_,,. 

-lit 

-lll 

- lO 

- . Noft Tbtcllu- daily Yldii .... U blbe fll!!lrlt Mx J0.)'011' 

e.cm ~At C0C1* '* • •WI _...~ted J«WJbc$ 

...Wbtpnont•l*,orfAct .•. S;fctli-..,'t•IOdltil'UIIItofk $.tnd IO.)Uiuna.ITt-.y)'ltlds. Soua:- [)rqn!ml clt.r T~U~Cq, &rdlj"J. 

34. Equirypri<es 

Sol'R(J; ScaDawd .t: Poor'• Dow ~ r.di(cs .S t\ASD.~ ilda ,;.. 

BloombtrJ,(forl)ow.Jooejl~bccMula:~x..ttorlhelll'CirQ'l 

WCOIIWIS~) 
86 


71317027.eps

Developments Related to Financial Stability 

Vulne..bilities in lhe U.S. financial system remain 

moderate on balan<:c. C.pitaland liquidity rnlios at 

most Iorge U.S. banks a><>tiooe 10 be at historical 

highs, and reliance on short· 16m ~t>olesale fU<lding at 

lhese in;titutions has c»ntinued 10 decline. Valuation 

pressures i<:ross a range of assds ind several indk.ators 

of im-eslor risk awetite h3\'e increased further s-ince 

mid-february, but ilJlP'rent high n.Jr appctite in 

""" mall:cts has not l<d to increased boml\\'ing in lhe nonfinancial sect<><. Debt owed by nonfinancial 

a>rpontions remains ele\•t<d, akhough it h.s been llal 

or falling in the past two years. Household ddlt as a 

shueol gross donl<'Siir: product has remained st.IJdued, 

and new borrowing has been dril'eflJXimarilyby 

households wih s~ong crc<it hisiOries. 

lhe wong capital position ollhe f10ancial sector 

h.s contributed 10 ~>e impr0\.00 resilience of lhe U.S. 

financi>l system. Regulmry upit>l r.~tios at most bank 

holding con>1>anies h<l\-e a>ntinued 10 be historie>lly 

high, mainly as a """It of the high<.< regulatory capilal 

requiremer>es. At the san>e tin>e, n>easures oll>ank 

proiRability M-e increased modestly on a l"""'"'l""r 

b.Jsis. Regulatory <>piUI ratios at insurnncc a>mpanies 

are also high by hislorie>l>~and•rds. 

Vulne..bilities soemming from n>at,.ity and liquidny 

transfomtation in the fina:ncial sector remain low. 

lligh-q~aliryliquid asset holdings at all large domestic 

b.Jnk holding oompanies .re abO\" rcgulalory liquidiry 

COimge ratio requiran<lllts. M>reovcr, banks haw 

a>ntinued 10 "'place shorHenn \-tloles.lle funding. 

such as oommercial ~per held by money markct 

mutual funds !also referred 10 as money markct funds, 

or M\lf s), wid> relatiwly more !lable oor~ •its. 

lhe use of Federalliollll' loan Bank lflil8) ad\onces 

as a source of funding forthebaoks, \\i>ir:h had 

increased notably through 2016, has falloo slightly in 

!he first quaner of 2011ifigure A). n~e MMF relom>s, 

designed by the ~rilies arld flrd>ange Cornn•~sioo> 

•nd fully imp...,.,ted in Or::lllber 2016, hil\'e l<d to a 

shift of ~bout S1.2 trillion in aSS<~S frO<n prin>e fundswhich can hold • range of risky instru..,.., including 

COIM>erCiaJ pape< ~by b.lnks--10 8"'""'01ent 

funds., 11ilich can bold only'""" collateralized by 

Treasury and agency SOOJrities. !his shift has reduced 

lhe risk of runs on MMf•. HOI\wcr, run rislr a>uld 

increa-se if investors shift out oi M.\~Fs irM more 

A. Stlected funrling for large 1lankJ 

.....L..._L._. 

%ell 1CI12 lOll 2014 lOIS ZOI6 2011 

___ 

~ Cou.:roa1 P*Ptt '- rtltW1 l'l'.a'trt II'MWI fun.! - Itt ..,..M>rlOil. r-•'-t.BW<(IliLBJ 

d.o art~ aDd trt ~y fl4wW. fHl.8 td\.u dJO b ~tk'fll ~of(~'< QpNI ~ _. a.rnc....., dtpaldilt•iltii'Mttldd."*ci!Oift'(. 

SOlraa;; u.s. ~O<'f .. W:blr!F ec....... font ~. 

.......,._.,,.lbl•~•f""">'"""'""'- """'" .,.. die Ofr~« o1 r~~MC~~~ ~ N4m! r~ ~ 

~Co.lo1.Calllttpllllfftoff1f.C031,"Cc:Moollbltdlttpc:tts 

ofC~IICid~fet•Bai:Wl1110c~lldferopC>$ot$.· 

opaque •nd fr.tgilc alternative ''chides. Thus, COO!inued 

monitoring of this sedOI is importlnllhc fliLBs ha\'C 

increased their issuance of short·malurity liabililics, 

m•inly 10 g<l\'erllmcnt funds. HOI\""", ~>e fHLBs 

h3\'l! not reduced il>e maturity ol ~>eir 0\\n assots, 

which increases their liquidoy m ismatd! •nd potentia I 

vulr>er>bWty to funding strains. lhis mismatch has 

also been highlighted by lhe federal Housing finance 

f~VJlC'f, which a>ntinues 10 e\'aluate ""l" 10 lormali1c 

its SUp<>Nisory exped>lions reganling lhe 'l'Jl'Oilriate 

~mount of short·ll'l!ll funding of long·oe<•• assots by 

!he fHlBs.' 

Valuation pressures hil\'C incr~>S<ld funl>et across a 

range of as!CIS, induding Trcasury!CCurities, cquillcs, 

a>rJ>Or.lte bonds, and oomn>etdal re>l est.llc (CRf). 

t. S.. Meh<n l. w..-, !2011), •P>epored Remod:s: lP'«i> """"""'" II>• 20t1 fedt,.l " "'"'loon M o.r.c,.,.. Corh!tnc., W•shi~IOO. May 23, I"'P'i,.ww.IIVa.govl MedoaiNJI.cM•,<!II\lg~R-004-M<Ivoll-L· 

W••·Oi"""'-o/ A·IHl81111lr.()i,_,.(oo¥..,.,-"'"-
87 


71317028.eps

Tenn l>rer'lliumson Treasury securities oontinue eo be in 

~"' 101\"' port of @ir hi;t«kal disiribu(IOJI. II sudde<l 

rise in term premiums 10 more normal levels poses~ 

downside risk 10 long-maturity Tre>>tuy prices, \\hid> 

oould in k•n affectrhe prices ci other .,,..., fo<wdfd 

equily price-ro..,amings ralios rose a bil further and are 

now" d,.;r highesrlevels since @early 2000., while 

a 111easure of d1e r~k premium embedded in high· 

yield OOrp<JRic bond spreads declined arooch from 

•n already low le\~ , implying high asSEt v.1lualions 

in this marlcer as well.l'ria!s of CRE hOI\<e Ollllinued 

10 advance >1 a rapid clip amid slowu.g rent g<owth 

and rising inlf!cst r.1tes, though ~""e •re signs oi 

rigt.ening credit condirions in CRE markers. In mn JaS~ 

farm~nd llficc; have declined, al>cir more slowly than 

prevailing ren~. implying lh>l farmland price.IO·renl 

rati"' have cootinued 10 m<>l<e up 10 ve<y high la'Cis. In 

derivati\\.'S markets, in\'estor compensation tor bedJ'ing 

near·letm vola~ilily risk has remained low, suggesting a 

SUSI.lincd invCSIOC fisk a~ 1C. 

The rario oi priVilte nonfinanci.llthowbold and 

nonfrn.mdal businc;s) debt to gross domestic prod ~ 

shown in f.gure 8, remains below~"' esrimaiCS of its 

... - - 1.1 

/ \'-.....r 

- -

1.6 

... 

- ~ .J - - tJ 

- -

No:t- Tk..,.bws11161:11e~arba:Msl~••r..t"' 

lbt K*'llllkft.~£toocM R&.wcl. S<l14: f<Qont lO<f\'t Bo..s. Slatl$IICII ~tt~t;w;t Z.l, '"fUIIIINI 

A«oa~~Uofihet:oiltdbs":~flc~~~r 

_ .... ,. ...... .._..t..-..-(l.lPA~Tol>k 

I.$;GtcuDcwsrlt~&.d~c-~ 

MOS£1AAY POliCY IU'PORT: JUlY 2017 25 

long·re<m "'IW1lrd trend. The debi·tO·inoome ratio oi 

howbolds has changed little O<'C! rhe pasr few years 

and rcnl<lir• >1 a relatively lo.v level. MOICOI<f, new borrowing;, con~>~ated among bofl1lWE.'!S wirh high 

aed~ SCOJ<s. In ronr~ rhe """"~~" ci oonfiMncial 

CO<pOJations continues 10 be nQCably ele\.red. New 

borrowing is co a!ll~ ed among finns "ith stronger 

babnre she<ts, and ~ .. lbt>l ouiSianding amoonl oi 

lOOJ •t i'C-gr>de bonds and le\mgo<l loans cdgt<l 

dOI\11, espec~lly in ~ .. oil sector. 

As part oi i~ <llo!t ro reduce regula lOry burden 

\\1lile p<omoting@ f11ancial st>bilily ol@ United 

Slilres, @federal Reser~ .. Board h35 token too key 

steps since mid·february. ~ metrlx'f •gcncic; oi 

the fOOc<a l financial institutions [lOlmination Counci~ 

including the Board, issued a joint repon 10 the 

Congress under d1e Eoonomic Gn>~ 1h and Regulal<lry 

P.!pern'Orlc Redooion Act of 1996 detailing ~r review 

ol rcgulatiOffi affecting smaller financial institutions1 

such as communiry banks. and describing borden· 

reducing actions the agencies plan "'t.Jke.' Second, the 

Board and@ FOOc<al Oeposir lnsur>nceCorporation 

jointly announced "'completion ci eva uation 

oi the 2015 resolu<ion plans of 16 domestic banl<s 

and S<'Jl'ral<ly issued resolution pL>n guidanre to 

4 foreign banks.' Tho ag~ i<ter•ified shoncomings 

in one domes<ic finn's <esolution plan, which mUS( 

bes.1tisfael0rily addmsscd in the finn's 2017 plan 

by Dec•mber 31. FO< foreign banking <llg>niwions, 

rc;olution plans are fooosed on~~ U.S. ope<ations, 

and guidance issued 10 ll>eSe O<ganlzation, <~&as the 

signifi(Ont res~auri ng ~>ey hove und<!J1aken 10 form 

lnt<!!flledlary holding companies. 

2. Set Board of Q,..,,..., or dw ftdml Rt~M• Sylotm 

[1017), •Banl<>nsA&"'c"' '""' Joi<d'l""' 10 Congress uncl<r tht £oonornlt C-hand R'8"1•toty "'-" Re<lucuonActol 1996:J""'<clt.,.,M>rdl21, hcrps;.l.ww. f«forai~O\'~J!es~rtgl0170J21o. 

h~. 

l. Set Board d Covemors of tho fede"IResem SySII'm Q017), ·A&-Compi<ttRI'SOiucoonPI>n(volull<>nofl& ~<firms; Prolo·tdt RfSOI~ion Plan eu.d.uu 10 fol.r 

l...,gn Bonb'll Ooganiuuoos:,.... rt~ast. March 24, h"P'f""'w.fed<rafme~• ~lwe!.' 

bcr<g10170324•.1tr"' 
88 


71317029.eps

Recent Developments in Corporate Bond Market liquidity 

Market liquidoy relers 10 lhe extentiO 11hich 

in>'e!IOf! an rapidly cxett.tc siz<lble se<:uri1iEs 

~r>ns>Ciions at a low CO!Iand wilh alimiled price 

<lfe:t. A high degree oi martetliquidily laciiGtes 

irlfO<mationally effiCient martel p<icing •nd lowers lhe 

re~ums re<pJired by im'e!IOrs to hold fmndal....o; 

it therefore decreases the COli oi valuable OO'JflOflric 

projeas and so contributes 10 the <oflicient >I location oi 

capital. MorCO\'Cf, liquidity mnd~ions rhatore resilient 

in ~"'lace of economic and r.naocial shocks ~uce 

lhe rislc of exc.ss oolalility and r.res.le ros.es, a,us 

helping mitig~te systemic risk. 

financial ins.litutions that~ as "'m.artet makers: 

by posting p<iccs and st>nding re.Jdy 10 ooy"' sell, 

areaitialto healthy liquid~ in ~lC markets fO< 

cert.1in """"'·including oorponte bonds. A series ol 

changes, including regulatO<Y rciO<ms, sioce ~"' Glob.JI 

financial Crisis haYe rtkely allffed financial inslitulioos' 

inccnti\'CS to provide liquidity, r.lising COOCftT6 aboul 

deaeased liquidoy in ''-molkfts, especially during 

periods oi mortet stJeSs. HO\I'l'\'llf, lhe available 

evidcnoe does 1101 point to any stbsl.lntial impairment 

in liquidity in major finaoci~l markets in nx::em 

uu - -

"" 

years. In addition, financial markeu haYe groe.ally 

pe<iO<med well during recent 'l'isodes ol r.naociol 

stress.' E\'efl in ins.1ances i'l which liquidity coodilions 

in CO<Uin mortelS appear 10 haYe ~erioraled, lhe 

<lie<~ haYe been mild and su~tliniled econonric 

consequences. In lhe remoinder ol this discussioo, we 

illusuare these poinrs with emphasis on lhe market for 

corponte bonds. 

In recent)l'ars, martel par1itipants haYebccn 

particularly"""""""' wi~>liquidity mnditions in 

lheoo~lO<"ate bond matket because d>e securities are 

traded less r"""'"~l\ and~ .. liquidity ~ion has 

relied mOfe heavily on dealer inlemlediation, thin in 

many o~.., markets. Howcv., a range of oom'CillioMI 

mctrics of liquid~ indicate rhatliquiditys~r>ins in 

corponte bond martru have been mininal. ligure A 

I, f<w 0 d&USSIOO o/lht beh>vior o/ bond pnces dunng 

~nl W f\tntStlh~t is, extremefy !1pid ~nd Wgt priCe 

-~"'ryshortpenods/,see,......H.I'owell 

!2015), •Sifuatnand Loquodity on Tre>.<ory M.>tt<ecs.• !pOtCh dooln•r .. t.l on. Brookong> lrosltl.lo<lll, Wa!llongooo, 

~..,l,l"trpsil\\mviedoral,.n• ~""~ 

po"WelllOISOSOJ.>.hrm. 

... 

r~ 

-u 

- ll 

-It 

- . 

- l 

lOD7 lOll lOU lOIS '"" Nota; llt._ftdaily Thtbik41P'*'vebc'!l.cS.ylllfllll•~o(6t68'~~bctwceftkuo•~~«<ibbWJnW-.!•k 

p:icuo!~boldJGIIIbr~lllllltt,«*tllft.t-.dpritt~dT«t,_fttk11~mll'riiiC!ro-.flfii:ADWt~?l~ 

(~foocnott2\•tlclisde(ll'ltdtSt.t4aJ)J~<llhedboo!lbe~\'alueolbf'"Ctalllt~thlqUto~-"'*"b~ 

boodl•lk~Mctdiii...Oilkulllllftll:'jbcfl.l\"'IIUia&.tlJOp.e.f.ldlbt.U•bcW 

Soua: Fll<lAT""'Rqooooc..J~"""'·'"""""'-..soc-~rru.~"""''"""""'-'l«>!y''Dofooolr..o 1«'0\"} ~ 
89 


71317030.eps

shows d.allh<> eslimaled """'n elfeclivebid-ask .pread 

lor U.S. oorpooa1e bonds has remained low in recent 

yea~. Before the Onancial crisis, bid·ask spreads 

avcragt'd aboot I percent ol the price of the bond. 

This measure of trading """ skyroc:kcted during Ill<> 

f11ancial crisis but has returned 10 Ill<> range seen 

belorelh<> crisis. Mcastres ol the effect ol tr.o&s on 

prices follow a similar panem and ha\0' been fairly 

stable in rcceol ~'ears/In addiOOn, olher measures 

rclated 10 l>aoo assodaled woh marke« liquidity, 

such as trcn<k in a'Kfagc trade size and UlfOO\U$ also 

suggest mark<.< liquidity conditions are benign.' 

That said, some re<:l!fll work suggests that these 

traditional measures of transaction oosts might 

exaggerate the. liq id~y inp.lrt bcause 

dea <~> hill" increasingly ~t<d from >Cting as 

prindp.lls 10 acting as agents 10 reduce their risk 

2. S.. Ydkcw Am~ud QOOll, •tlllquod<y and Slodc R..,ms: 

OW.St<toonandfirno-S.n" Eff<ru,• /Otlm>lolriiWIOll M.arke<J, YOl S IP""'l'l· pp.JI-S6.1he Arn1t.rd prio:.,iiect 

me~ i$ dell'oed ~s ~be Qtio of the fX"«n~ dli!nge in 

p~i=~~t;f::::~tra~!u~~~=iniw C<llll"" ol C"!"'>l< bond rna~.., f"nc<sco Tretbo and t.'.ai""'8Xiao (2015~ •R'llu~IJO<I and Mlri<O\ liquid1ty( ~6ER 

Working P,P..S<nes 217l91Cantridg<>. Ma"-: ~<ll;oo.,l 

8ureau oi Econom.c Re$tard\ \oo.~. 

B. Brok"-deokr holdiogs ol ,.,.,,.,. aod foreiyl boads 

....... w.. .... Ol'l UatJJWgq. ~Qae: I 

.... 

.-1 I 

I I 

I I 

I I 

I I 

r 1 

MOS£1AAY POliCY IU'PORT: JUlY 2017 27 

exposure, resulting in tigh~er bid· ask spreads. • Indeed, 

many mark<.< participants hiii'C expressed a"""'""' 

dt31 declines in dealer ii1V('tltones may refloo in p.lrt a 

reduced willingness or capacoy of Ill<> prwrnuy dealers 

10 make markets, ~~ich may in tum lead 10 loo'l!f 

liquidity. 

figure B shows that primary dealers' in""IAO<ies 

ol <DI)>Orate bonds (including foreign bonds issued 

in ~"' Uniled Statcsf, which are predominantly used 

for mark« making. indc<d began to <b:lincwrply 

following the Beor Socams collapse in Mardt lOOO 

and fell lunhcr after lehman Brodlers fail<d in 

October 2008. Such a sharp decline in dealer 

in\'001otics may be lhe result of dealers' jCtions on 

their 0011, rellocting changes in risk preferences in 

re>Ciion oo the Onancial (lisi< In addition, changing 

(COiltinuedOtJ next 1"8"1 

s..,.._,010iandYesoiHIA112016~ 'C"""""' l~odll)' P101'11001l: lmplat""' lot COipO<O" Bond 

Tra,.Qion C.....' unp<A>IIst.d poper, Julyt,.,>ed 

iol'l•ryl011). h~li>I""SOOSi' """'\IIE>).,.IIluiVr<> .. n:hl Oloo_Huh_OP.pdf. ThtaUihon SUSS"'IIwnn•aciiOflSin 

.t.dldo>I<B.ctsomply "lrrokMIINio, '8'"'"'· ralhot 

th¥J.umrrnedlirit"Sih~tldch~ont.heirbil.wct~ 

lf>M<ip>ls/, could rcllo>ctpi<:t """""i""'INI dP•Ie~mdke 

totnlll?~ltSJnlolheoftrilcltolacradtsodlat 

dotdo•i<t>~IIIOOI ntediO hold lhe lr><l!d"""-

(ID ,.,_ _,,. 

- llO 

-2.«) 

- uo 

- ill 
90 


71317031.eps

Recent Developments in Corporate Bond Market Liquidity '"''"'nue<11 

r<gulatioo>-sudlos tho Volcbls rule •nd the 

"4JJllementary lel'erage tatio, which aimed to make 

the fln>ncial system s.fer and sooodct- and d1anges 

in oedu10logy may have OOf\lrh<ed to the CXlfllinued 

trend of lowe• de.lle< ini'<I\IOtie.' 

lhe fil<loo ofietting a dealer's willingness 01 

apacity to fadlit>te trading may also affect other 

•ctivilies sud>" arbitrage troding. "hid> equalfS 

prias f<>< O..ncing arrangements wi~1 OOlflOmically 

similar risks. Therefore, impediments in lllbitrage may 

also indicate m;ui<et illiquidity. One widely studied 

no-arbitrage relationship is the so-called COS-bond 

basis, the difference between bonds' <red1t delauh 

swap tCDS) spreads •nd bond-implied credit spreads.' 

figure C s~s that ~"'COS-bond basis for torj\OJ3te 

bonds was dose to zero before the a isis, widened 

dramotically during the aisis lindiuting a significant 

unrealized aibitrage opportun~yi and h>S ICtumed to 

a lt''CI closer to, bu still below, zero in recmt )"""-

More rectntly, the CDS bond b>Sis has nar1011'>d 

further. 

Overoll~ the degree to which dealer balance sheet 

COil>tr>ints affect COIJ'O"te bond mollcct liquidity 

depends not Oltly on de.llt"" capadty and 1villingness 

to polVire liquidity, but also on the extent to •hidt 

norhank financial ii1Siitt11ionssudl as hedg-. funds, 

mutwl funds, and illiUranoe coo-.>anies fill any 

lost mollcet..,.king capacity. Oti'<>f factors soch as 

changes in tcchnolosy, risk ptelcrroaos, and iiM!Stor 

COif4lOSition also i"'"'olct to shape the lt.lding 

;, S..lobiu """"'· NN Boyald!<tlko, •nd 0t Shociw tforth<oollog), 'Imler S.bnc. Shm and Bond l~Ay 

i'lov>SI(IIl,' /011""/oiMCM>tyf<onotrio. lheyfindlh" dt.iilm~lostricter rtgul~tiOflS afrerl!lecris.es att 

k>s.s ilblt 10 •ltt'rmtdiillf' o..tS!Omer t~ in thr corporatt bond mad:«. Abo see~ 8ao, .Ma1nen O'Hm. and 

Alex Lboutl016A '1"'\'oldcer '"It one! Miii.<1·Mol<lng on nmes<:IS..S.,'IiJWtCt and Eo:onomocs Dticus5lon;.,.. 

2016-101 (Wasl,.ng"": Bo.ld ol eo..mor. of dlt ftde,.l 

Rts<n• S)"""• De<:emb«A N1p<lt.wwied<-tal.....,..govl tc0~01f;'fildl016101p.11>l"f. llry"-thtt ~«tnlly do"'r~rad<d bonds lrade w11h a higher priet effect 

afttr the '""""""""'of tilt l'oldctr rvl., all>oughAnderson and Slulz fond no !Ud>elf..,, S.. Mol<! An<le•ound Reli M. Srulz !2017), ·~ ll>st·V.O. Bond Uquidory lowerl" \ 8{R \\'ot'<ing.,..,.,;.,..z)J17tC.~."""-'~''""'' 

Bumuol Eoonomk Rtstmh, AjlnU. 6. for a nl(l(tddal~ d!SCU!-Sioncllt~e CDS-bond basJS. .,., ,.. Boy""'-"ko. Poo,oC....., \lci:St<tl<.and pcquer..,. y., !2016), "Trends Ill Cr<do< M>!!<el M>tnge.' 

SoifR<pon 784 Nw\'ori<: ftdml Rt!tM S.rlc of \ow 

Yo<'<. ~)y; """"' .. ly 2016), https:lt.ww.n<!W)'IlMod.O<W ....rolillrnylmedi"""'"""sufi-"'''OIS'vl&l.pdf. 

C. CDS (mdit dofaul1 ""'1')-liood bas~ 

-lO) 

_.,. 

-Stll 

10)6 %0)8 :010 ZOU 10'14 2016 

~ Ib&. altDII 6aCb ~ lO, ZOI'- Tk 6pn: (llocs ilr 

alS-I><ool'-l«--.. ........... -n.ClJS.bood t.iisbJI ~JIId$~ f« ltKCSOIIOII,P a.l 

.... >itW~~-Ibe~cbllm'a;lc:~C'«blKMJ 

MttcCDS.s;md·lii~IOibr~IYO:tllY)..ttbt~~ 

(.'f)$t{xtlllhD(:laedbyat"'--)-dl S« 80}-.thrnbun4olhersr.GI')w _,"' ... ,. Sol.la:J.P MO!pi,(.'OSOa&.l(t«Jdditall~lbodtb: 

dlufiOIIJI.Mcrpl..~«lllt__.OII .. COIIII::*ptte.) 

environment 1lhece are indicatklns that marl:ct 

SlMture has manged Ut recent year;, and trades in 

certain situations and nlarS:etsegments might have been 

more cos y a1 umcs. But mallccts hM also adjtJ5ted, 

and some measures ol dislocation hM lessened with 

these adjustments. In summary, liquidity condilions 

hal'c been quite good 01oerall since the Global financial 

Crisis. The sharp deterioration olmollcet liquidity 

during 2007 and 2008 ilkrstratcs clearly that the most 

signtftcom1 nsk has been distress ~ttinandal ins~tutions. 

Any modest potcnlial dfoos ol regulation on liquidity 

srould be balancro l'oith the gains IO ICSilicnt;l'at large 

financial inslitutions associated \\ith regulation. 

7. S.. Oa~rell DIJifie (20121, '"'"'"Making under dlt !'nlpoo<dVolcker Rlk.'Wotl<•'8 !\ope• )118 i$1anfl>ld, 

Calif.: St.lnlotdGraduo<e Sdlool oi8USJMS, Ja""'t'ff, ''"Iailie a1 hup;t,.,.w.g•lutanforo.e<blaOJity-meardl' wOII:ing~rlfl.,..klng·undet'fl'!lPOS'd""lcker· 

rut.. lit~ !hOI lilt OOS>UI< eif<d ii>!Vold!HN" may Won marklf'tlicp.iidtly in tll~tshort IUlfN)'di~rin 

tile loo$run .. -b •'P In toprovod< hquod<y. S.. ai!O HM<tik Bts,..,bnler, S!ny [. J,lcoo..r.IVilliam F. Maxwel, .00 IWmat \l!rlca~~- !l016!. ·c.proal 

Commi1JO(U: ind llhq1.11dil')' in CorpoQte Boncb,•~.qJ~J.Jtished 

popet, .1\lrd!, h!ip<hf,IIOOCt.bos.u<k.eOOIUlSMCid<X'UITli'Ot.ll 

B,Q,I>xwell.,..,.nop•••m042016.pdf. llle """""fond that 

b¥lk: «~len ..re less l'ldhJJg to provide I ~Cf~ichty f1tNi llwn '" dlf' tec:tfll pu!, \\tlile ~nk_ de~ers Mt f'I()N' more williog. 
91 


71317032.eps

Bank credit continued to expand, though 

at a slower pace I han in 2016, and bank 

profitability improved 

Aggregate credit provided by commercial 

banks continued to increase through the 

firstquarterof2017.though at a slower 

pace than in 2016. leaving the rdtio of total 

commercial bank credit to nominal GOP 

slightly lower (figure 35). The expansion of 

core loans slo1wd during 2017. co ~stcn t 

with banks' reports in the April SLOOS of 

weakened demand for most loan categories 

and tighter lending standards for commercial 

real estate loons. liOIII.'VCr. the growth of core 

loans appeared to be picking up somewhat 

during the second quarter. Measures of bank 

profitability have continued to improve so fa r 

this year but remained below their historical 

averages (figure 36). 

Credit conditions in municipal bond 

markets have generally been stable 

Credit conditions in municipal bond markets 

have generally remained stable since year-end. 

Over that period. )icld spreads on 20..year 

general obligation municipal bonds owr 

comparable-maturity Treasury securities ~~~ e 

little changed on balance Puerto Rico filed to 

enter a court-supervised process to restructure 

its debt after it failed to reach an agreement 

with bon ho de ~ and several credit rating 

agencies downgraded tbe bond ratings of the 

state of Illinois. I lowevcr.thcse events have 

had no noticeable eiTect on brooder municipal 

bond markets. 

International Developments 

Foreign financial market conditions eased 

Financial market conditions in both tbe 

advanced foreign economies (AFEs) and the 

emerging market e-conomies (EMEs) haw 

g~ erally eased since January. Better-thanexpocted data releases. robust corporate 

earnings. and the passage of risk eventssuch as national elections in some European 

countries- boosted investor confidence. Broad 

MOS£1AAY POliCY IU'PORT: JUlY 2017 29 

35. RatiooftOI>l oommen:~al toni: crtdino nominal gross domestic product 

- -

_, 

- 1\ r ~ 

-/ v _: 

-ll 

!1 I I I I I I! I I I I I It 

2001 200J ~:!JO.m42011 20U llOU201t 

seuo_ ~ lt.t$er.~ Bo114 SUn.'lbQIJ Rdeaw R3, .. ANd~ .. 

l.ubihboes <I~ B.ds a 6t L~ ~ Drpa1mnn of 

CqnDCm.lJano.alelF.concn~r~ 

10 -

-·- Jj - .. 

1.0 -

--.. - JO 

-Yl 

~.J..., I Ill I I LLLl 

2<»12003 200Sl0)12Q)9 2011lOH lOIS 2011 
92 


71317033.eps

37. Equ1ty iOOexes fotsclecred foreign etoDMnies 

12S ....,. __ - 12<1 

!<Ill 2011 

-m 

-lit 

Ill! 

100 

- 9S 

- 90 

1$ 

No:rLlkdlllarc~.a\~ordililyci..Qande~rcud~ 

.W,!,lOII 

Socia For .ach'IIK'Cd ~ ~ .. oo EAFE lllda \v. 

~ RC'IIlm 6loa- DMuam (« ot"K"t; !'or C111t1J10C -..tn ~MSCIF~).fd<ul1100:'11,_.k.Men&l.:on..,lb 

-.r..oo... 

. .... a...o..,""'""'' lOt - I Eqo~r.ol-1 .... .,;,) 

wL·; 3!0- w -

II JOt -

- lO 

,.,. lllll 

~ort::lkf..\Qilf dauttt•'eCilf"'CIIPddailydtu-.do.W .. JIIy5, 11M7.tkEPfk .. •-'!yADof•ldlydna.. 1\t AIDII\ows41la~c:WebdllocalalaCb:u. 

Scna-c f« lxDIIIIII ~ bd Rov.-,. an Globlt; b 1'~\lli . JJ' 

~'*"PP3obl\tt~Borlllllda;ftw.lia~ 

39. Nommal 10-)•.,.~mmt bood )1t1dSin 

selected advanced «(((l()nlies 

- lO 

- U - ()na. I \t.},;o - 2(1 

, 'I W '-'-'"*ofoo - l.! 

\ /"-v.. 

J' - 1.(1 

- .! 

equity indexes in advanred and emerging 

foreign economies rose further (figure 37). 

Ln addition. spreads of emerging market 

sovereign bonds over U.S. Tn:asury S<..:urities 

narrowed, and capital flows into emerging 

market mutual funds picktd up (figure 38). 

Go1~rnmcnt bond yields in the AFEs generally 

remained 1~ry low. partly rellecting investor 

cxpt'Ciations that substantial monetary 

policy aecommodation would be required 

for some time (figure 39). In the United 

Kingdom. softer macrO<.'COnomic data and 

uncertainty about future policies and growth 

as the country begins the process of e.~it ng 

the Europt>an Union also weighed on yield& 

llowcvcr, AFE government bond )iclds picked 

up somewhat in late June. partly reflecting 

investors' focus on remarks by oflicials from 

some AFE central banks suggesting possible 

shifts toward less accommodative policy 

stance& In the euro an.>a. bank supervisors 

intervened to prevent the disorderly failure of 

a few small to medium-sized lenders in Italy 

and Spain: business disruptions were minimal. 

and spillovers to other European banks were 

limited. 

The dollar depredated sornewhal 

Since the start of the year, the broad dollar 

index-a measure of the trade-w~?ighted value 

of the dollar against foreign currencies has 

depreciated about 5 percent, on balance. after 

rising more than 20pen:cnt between mid2014 and late 2016 (figure 40). The weakening 

since the start of the year partly refiocted 

growing uncertainty about prospects for more 

expansionary U.S. fiscal policy as well as 

mounting confidence in the foreign economic 

outlook. Tbe euro rose against Lhe dollar 

following the French presidential election. and 

the Me.~ican peso appreciated substantially as 

the Mexican central bank tightened monetary 

policy and as investor concerns about tbe 

potential for substantial disruptions of 

U.S.-Mexico trade appean.>d to east. 
93 


71317034.eps

Economic activity in the AFEs grew at a 

solid pace 

In the first quarter. real GOP gr.'W at a solid 

pace in Canada. theeuro area. and Japan. 

partly reflecting robust growth in fixed 

iOI'I.'Stment in all throe economics (figure 41). 

In contrast. economic growth slowed to a tepid 

pace in the United Kingdom. reflecting weaker 

consumption growth and a decline in ort~ 

In most AFEs. economic survey indicators. 

such as purchasing manager surveys, generally 

remained consistent with continued economic 

growth at a solid pace during the second 

quarter. 

lnOation leveled off in most AFEs ••. 

In late 2016. consumer price inflation 

(measured as a 12-montb percent change) rose 

substantially in most AFEs. partly reO,'<:ting 

increases in energy prices (figure 42). Since 

then, inflation has leveled orr in Japan and 

declined somewhat in the euro area as upward 

pressure from energy prK:es eased, core 

inflation stayed low. and wage growth was 

subdued even as unemployment rates declined 

further in both economies. tn contrast. in the 

United Kingdom, headline inflation roSt wdl 

above the Bank of England's (DOE) 2 pero."11t 

target. largely reH<!Ciing up11-11rd pn:ssure from 

the substantial sterling depreciation since the 

Brexit referendum in June 2016. 

••• and AFE central banb maintained 

highly accommodative monetary policies 

AFE central banks kept their policy rates at 

historically low levels. and the Bank of Japan 

kept its target range: for 10-year government 

bond yields near 1.ero. The European C.:ntral 

Dank (ECB) maintained its asset purchase 

program, though it sligh!ly n:duced the pace 

of purchases. and the llOE completed the 

bond purchase program it announced last 

August. llowewr. the Bank of Canada. 

BOE, and ECB hal'c recently suggested 

that if growth oontinues to reduce resource 

slack, some policy accommodation could be 

withdrawn. The ECB remarked that the forces 

M0'£1AA'i POIICH!POIU: JUlY 2017 31 

'«<'cct.e.r-..,.LJOI'•IOO 

- "" 

110 

llO 

1<0 

- llO 

- '"' - 110 

- 1<>0 

Non: Tltdaca, ilidl~ttlllfor~~Wilbperdal'l.lr ~~eWII!d.ly 

I\W~pol6tl)'dG_,niCIIdlroqi!W,.S.1Cll1. 

Sol>a:r..tml ~ llootd, -ml l!tm HI~ "F"""' ........,. ....... 41. Rtal!:t"SSclomesric pmduc< grwlb in .,)e<l<d 

ad\-'111«<1 foreigo o:OIIOillies 

·"""'·- ..... 

I fwoiii'U Ql 

·-[J i 

- l 

_, 

- l 

- l 

- I 

- I 

<'1bCitt:Of&«.GomrauorJIIf*l;b~~--.~ """""'*l•""'"""""· ... "'"--"' .. bc...u&.. ..... $bl»i1C$(~II\~I~wAIIalytic$. 

42. ltlfla[ioo tn st ~d advaoced fi:ln.--ign eccnomies: 

- - ) 

-2 

- I 

- I 

lOll lllll 

t\on:: l'Wdllab1ht<WOtttaill«rppDDt!kWac;IN1tbllillt 

21>11. Tht4UI'«f.ndi.J ... •nrS81t\.'ukd~a;tdi~Joa&b 

~!aylllll. 

h.a:: ruw um ~ Of!ktb NaomaiSWisucc b J.aru 

Minutryol~AliM"MCIC'(I(w.'IICitiml;b6t:c.art~~. 

~ OIJict or tbr Ewopta <'~ b Cwdt.. Scbcic.s 

('.-4a;.U\11o!rn'CI~ 
94 


71317035.eps

43. Real grossdcxn<sOo: product growth m selected 

emerging m:det «00001its 

Ll 

-12 

-I 

- l 

Nm; TkdallbOun&~~titiiON!IyJd]tQe4brlbldiD!fThcd.tl 

forto.c.,MC'XK"0.-.18ran1M~~bydft~ 

JO'Wftl ltlll~ 

Sot.1m. For Oaiu.O.. ~Bimu of~ for KlftA. e.t oi'Kcrea:.6.YMw.""llil$l:ll:lvNciao.al4e~y~t'or 

ltoli,lrutaloa..ilnrodr:~tEiub6clc:a.ali\'IIIIMrAUI}1A 

holding down inflation could be temporary. 

The BOE indicated that some monetary 

accommodation might need to be removed if 

the tradco(f between supporting employment 

and expediting the return of inflation to its 

ta~t is reduc..'d. 

In EMEs, Asian growth was solid .•. 

Chinese economic activity was robust in 

the fir>1 quarter of 2017 as a result of solid 

domestic and external demand (figure 43). 

More recent indicators suggest that growth 

moderated in the second quarter as Chinese 

authorities tightened financial conditions 

and as export growth slowed. In some other 

emerging Asian economies. growth picked up 

in early 2017 as a result of stronger c.'lemal 

demand and manufaCiuring aCiivity.llowcver. 

growth of the region's exports. especially to 

China. slowed so far in the second quarter. 

••. and many latin American economies 

continue their tepid recovery 

tn Mexico. growth decelerated a touch in 

the first quarter of 2017. partly reflecting a 

slowdown in private consumption following 

sharp hikes in domestic fuel prices. These price 

hikes. together with ~te effects of earlier peso 

depreciation on import pric.!S. contributed 

to a sharp rise in Mexican inflation. which 

prompted the flank of Mexico to further 

tighten monetary policy. Following a 

prolonged period of contraction. the BraLilian 

economy posted solid growth in the first 

quarter of 2017. partly reflceling a surge 

in exports and a strong harvest. However, 

domestic demand has remained very weak 

amid high uoemploymrnt and heightened 

political tensions. and indicators of economic 

activity have stepped down n:cenlly. In Brazil 

and some other South American economies. 

declining inflation bas led central banks to 

reduce their policy interest ra e~ 
95 


71317036.eps

PART 2 

MoNETARY Poucv 

The Federal Open Market Commi llee 

raised the federal funds rate target range 

in March and June 

Over the past year and a half, the Federal 

Open Market Commiuee (FOMC) has been 

gradually incrca~ng its target range for the 

fedeml funds rate as the cwnomy continued 

to make progress toward the Commiuee's 

obp;tives of maximum employment and price 

stability. After having rai~ the target r.nge 

for the federal funds rate last ~mber. the 

Commiuee decided to raise the target range 

again in March and in June. bringing it to 

Ito 1 V. percent (figure 44).s The FOMC's 

decisions reflected the progress the economy 

has made. and is expected to make. toward the 

Commiuee's obp;tives. 

When the Commiuee met in March. it decided 

to raise the target range for the federal funds 

rate to ¥. to I percent Available information 

suggested that the labor market had continued 

5. s.. Board or Go-.mors or lhe Ftdcllll 

R<Sm< Systcm (20t7). ' Ftd<ml Resm<lssoes 

FOMC Sratcmtnr," prtss rrl<asc, Man:h 1 S. hups1/ 

w"witdcrnlrt>m~p ncw""'"'"'P""'"''ases/ 

mooerary20t10) tla.b•m; and Board or Go><mors or 

the Federal Resm• System (2017), "Ftder.il R<Sm·c 

I<<UeS FOMC Suternenr," press releaS<, June t4, https1/ 

n-w tdcrnlrtSm~f!J'I De•""''""'P"""' eases/ 

mooe•arylDt70614a.htm. 

44. Selorud '"""" ..... 

33 

to strengthen e1-en as growth in economic 

activity slo11'ed during the first quarter. 

Inflation measured on a 12-month basis had 

moved up appreciably and was close to the 

Commiuee's 2 percent longer-run objetlivc. 

Core inHation. which e~cl de vo atile energy 

and food prices, continued to run somewhat 

below 2 percent. 

The data available at the time of the June 

FOMC meeting suggested a rebound in 

economic activity in the Sc'OOnd quarter. 

leaving the projected average pace of growth 

over the first half of the year at a moderate 

level. The labor market had continued to 

strengthen. with the unemployment rate falling 

neariy ~ pen:-entage point since the beginning 

of the year to 4.3 percent in May. a low level 

by historical standards and modestly below 

the median of FOMC participants' estimates 

of its longer-run normal level. Inflation 

measun.>d on a 12-month basis had declined 

over the previous few months but was still 

up significantly since last summer. Like the 

headline inflation measure. core inflation was 

running somewhat below 2 percent. With 

employment expected to remain ncar its 

maximum sustainable lcvd.thc Commiuee 

continued to exp;x.1 that inflation would mo11: 

up and stabilize around 2 pert-en\ over the next 

couple of years. in line with the Commiuee's 

- s 

_ , 

-l 

-I 

-0 

lOOS 2«11 b:JH) lOll lOll WIJ l014 WIS l016 lOll 
96 


71317037.eps

34 PAAI 2: MO\ITAA\' POU(Y 

longer-run objective. In 1~cw of realized 

and expected labor market conditions and 

ioDation. the Commiuee decided to raise the 

target another Y. percentage point to a range 

of Ito I Y. pcn:cnt. 

Monetary policy continues to support 

economic growth 

E>m with the gmdual reductions in the 

amount of policy accommodation to date. the 

Committee judges that the stance of monetary 

policy remains accommodative, thereby 

supporting some further strengthening in labor 

market conditions and a sustained return to 

2 pcn:cnl inflation. In particular. the federal 

funds rate appears to remain somewhat be-low 

its neutral level- that is. the level of the federal 

funds rate that is neither expansionary nor 

contractionary. 

In evaluating the stance of monel<!ry policy. 

policymakers routinely consult prc>scriptions 

from a l'ariety of policy rules, which can 

s.:rve as useful benchmarks. Ho~'C\<cr.the 

use and interpretation of such prescriptions 

1\.'i]Uire careful judgm<)I\IS about the choice 

and measurement of the inputs to these 

rules as well as the implications of the many 

considerations these rules do not take into 

account (s..--c the box "Monetary Policy Rulcs 

and Their Role in the Federal Reserve's 

Policy Process'). 

Future changes in the federal funds rate 

will depend on the economic outlook as 

informed by incoming dala 

The FOMC has continued to emphasize 

that, in determining the timing and si1.e of 

future adjustments to the target range for 

the federdl funds rate, it Mil assess re-alized 

and expected economic conditions relative to 

its objcctives of ma.,imum employment and 

2 pei'C<'nl inflation. This assessment mil take 

into account a wide range of information, 

including measures of labor market 

condition~ indicators of inHation pressures 

and inflation expectations. and readings on 

financial and international deve opment~ The 

Commiuee will carefully monitor actual and 

exp(.'Clcd inflation developments relative to its 

symmetric inflation goal. 

The Commiuee currently c~peCIS that the 

ongoing strength in the economy mil warrant 

gradual increaso:s in the federal funds rate, 

and that the federal funds rate mil likely 

remain. for some time, below the l(:vcls that 

the Commillee e.'pects to prel'ail in the longer 

run. Consistent with this outlook. in the most 

rocent Summary of Economic Projections, 

whkh was compiled at the time of the June 

FOMCmeeting. most FOMC participants 

projccted that the appropriate level of the 

federal funds rate would be below its longerrun level through 2018.6 

The size of the Federal Reserve's balance 

sheet has remained slable so far this year 

To help maintain accommodative financial 

conditions. the Connniuee has continued 

its existing policy of reinvesting principal 

payments from its holdings of agen<,-y debt 

and agency mortgage-backed s..--curities in 

agency mortgage-backed securities and rolling 

ovtr maturin& Treasury s..-curities at auction. 

Consequcnlly, the Federal Resefl'e's total 

assets have held steady at around S4.5trillion, 

mth holdings of U.S. Treasury securities at 

S2.S trillion and holdings of agency debt 

and agency mortgage-backed securities at 

approximately SI.Strillion (figure 45). Total 

liabilities on the Federal Resen-e 's balance 

sheet were also mostly uocbangcd over the first 

half of 2017. 

The Committee intends to implemen! a 

balance sheet normalization program 

In June. policymakers augmented the 

Commiuee's Policy Normalil.ation Principles 

and Plans issued in September 2014 by 

providing additional details regarding the 

approach the FOM.C intends to use to reduce 

6. S..lh< Junt20t7Sumi1'Qt)'of Ec~n lllJC 

Proj«t10!ls, wbicb appearro as an addendum to (he 

minutes flh<Jun< B-14, 2017. =ting of 1h< Federal 

Opeo Matkct Commiu<e and is u~eluded as Part 3 of 

this report. 
97 


71317038.eps

45. F<dcral Rts<n-c """and liabiliti<s 

the Federal Reserve's holdi ~ of Treasury 

and agency securities once normalization 

of the fed~ al funds rate is well under way.' 

The Commiu~ intends 10 gradually reduce 

the Federal Reserve's securities holdings by 

decreasing ils rcinveslmcm of the principal 

payments it receives from the securities held in 

the System Open Market Account. Specifically, 

such payments will be reinvested only to the 

cxl~ntth at they cxC<.'Cd gradually rising cap& 

I nil tally, these cap; will be set at relatively 

low levels to limit the volume of securities 

that private investors will have to absorb. The 

Committ~ currently expects that, provided 

the economy evolves broadly as anticipated. 

it would likely begin to implement the 

program this year. In addition.thc Commiuee 

affirmed that changing the largc.t range for 

the federal funds rate remains its primary 

means of adjusting the stance of monetary 

policy (see the box "Addendum to the Policy 

Nomlalization Principles and Plansl. 

7. See !loan! or Gol·<mon or tb< Ftdcrnl Restrvc 

S)>lem(20t7), "FOMC Issues Add<ndwn to tbt Policy 

Normalizalion Principi<s and Plans," press relcast. 

Juoe 14, https:ilwww.fcderalrtSem:.gol'ill<""'""tsl 

pr<SSr<ka1t.<lmonctary20170614<.htm. 

MOS£1AAY 1'011CH!POIU: JUlY 2017 35 

The Federal Reserve's implementation of 

monetary policy has continued smoothly 

The Federal Reserve successfully raised the 

effoctive federal funds rate in March and June 

of 2017 by increasing the interest rate paid 

on reserve balances along with the interest 

rate oncred on overnight reverse repurchase 

agn:cments (ON RRI's). Spedfieally. the 

Jildeml Reserve increased the interest rate 

paid on required and excess reserve balances 

to 1.00 percent in March and 1.25 percent in 

June wbile increasing the ON RRI' oH'ering 

rate to 0. 75 percent in March and 1.00 percent 

m June, In addition.the Board of Governors 

approvod Y. percentage point increases in 

the discount rate (the primary credit rate) in 

March and June. In both March and June. the 

effoctive federal funds rate rose near the middle 

of its new target range amid orderly tradine 

conditions in money markets, closdy rac ~ 

by most other overnight money market rate& 

Usage of the ON RRP facility, which had 

increased late last year as a result of higher 

demand by government money market funds 

in the wake of last October's money fund 

reform, has doclined some. on a1'Cragc. in 

recent months lloii"Cver, usage has remained 

somewhat above its levels of one year ago. 
98 


71317039.eps

36 PAAI 2: MO\ITAA\' POU(Y 

Monetary Policy Rules and Their Role in the Federal Reserve's 

Policy Process 

What are monetary policy rules? 

Moneta')' policy rolols ar• formulas !hat pi\'WiiJe 

a tight link becwoon a small numoor of economic 

variables-typically inrJuding t~ gap b<!tl•een actual 

and target inOa1ion along with an cstima:reDi resource 

slade in the oc:oromy-.>nd ti'<!sctling of a policy 

talC, AA:h as 1~ fedetal funds mte.' \\1lile policy 

NI<!S can ll<OVide ~lplul guida~ for policymal«n, 

~heir interpretation requires canlful judgn>erll about 

the n~e.>suren~e~t oi d"' inputS to d>ese rules and tile 

implic>tions oi ""'many oonsidcr.uions those rules do 

nc)t tai<P. into account. 

Policy roi<!S can inoorpor.ne key p<i~ of good 

moneta')' policy. One I<P.y principle is th>t rnonetal)' 

policy sllOIJid ""flOOd in a predktable way 10 changes 

in OOlnomic oonditions. A seoond key p<indl)le is 

,,.t mo1~'Y policy should be a«ommodati\~ "ilcn 

in Ration is oolow the <~<!Sired lel~l and l'll'l>io)ment 

is bPiow iiS m~imum sustail\ilble level; oon,usefy, 

monetary policy should be restriaiYe when d1e 

qlpOSite holds. A third key p<ioci1>ic ~ tha~ 10 stabilize 

inllalion, ti'<! policy me should oo adjlhled by more 

than one.for<111e in response 10 penktent incre:ose or 

deae.,.,. in inllation. 

Eoonomists h""' analyzed many niOfleQI)' policy 

Nles, including the wcll·kn0\\11 Taylo< (19931 rui< 

as well "od>cr rules discussed latrr: the 'balanced 

'PP'""dr' rule, the 'adjusted Taylor (1993)' rule, 

d"' 'change" rule, and the 'Gr<t difference• rule 

tfogureA).' These policy rules generally embody the 

drrce 1<P.y principles oi good moneta')' policy noted 

earlier. Each rule talres iniO account ow gapsthe difference bctwoen inllalion and iiS objoclil" 

(2 perocnlas nlC>Slfed by the p<ice in&:< for personal 

consulf!ltion ""!>endilurcs tPC(), in d>e case ol dre 

federal Re<cr\'e) as well as tlr Micrcnce between the 

I. n,... i5 al<ngolry ""dem"' and onleli«t"'l deb.rtt ...., usongrults 10 guode-O'I.ll)'pclu:y. P"""irl''" tJQmplts olrulo!s "'"ilr d""""" irl lhe li""'.n and 1nl\oornoal on pcllqm>.l<o" in tatf.e< penods inclde tht gold 

..,nd,rrd Mid Molton F<oedonan's ""'"''"money pill rule. 2. 'lhel')'lorti99)Jrulewa$frst~onjohn8. 

l')'lor(l993), 'Ois<fl'loQrl -•l'olq Rill<> in Prod«.' 

C.mtgrt-Rr><J>.s(t( CooktMc. S.... 011 JlJI»c l'oltcy,\01. )9 

tlltarnbci,,Jl!'.t95-214. Thebolancod"PP""'chrulewas a"'lyt«< inlohnB. l')'lo<t1999J, 'AHistoriciiANIY'<ol ,\-oryll>lio:y RufM.• infolrn 8.1o)io<, <d. A~ A>ky 

R<hl>ltChocago: V......,oty of Chicago Pmsi,Jl!'. 31~1. The ~101«1 l')'lort1993)rultwulllldO<dln Oovod Re>&dw>e.d« 

and John c. IVillo.lmsaooor. '1'-l"""" fe< Morlmr) 

1\>lk:yin olow·lnfbi>Orl u.: }orJtmloiMooff)ler.d<l."'d &~1'01 32t'-'....,.,.11'·93&.66.11redr.lngorule 

""'d""""" in fohn B. T')'lort199')). 'The R""""'- and fi5c""'Y ol MOO&')' Policy Rlllts" Go.odtlines for 

raiC ol unemployment urlhe longer run (If') and the 

currml uncmployn~enl rale.' Unlike the other rules, 

thr. fim<liffcrmce rule considers thr. change in the 

unemployment gap tadletlhan iiS level 

The Taylor 1 1993), halanced·app<oach, and adjust..! 

raylor li993J rules pr<Mde p~ lions for the kwl 

of tire fcdcr.ll funds rate and ll,"J'lire an estimate of 

the nculr.ll real intr.tl'SI rate in d"' longer run (1")-

lh>l is, tl~elcv.r old,. real federal funds rate thai is 

expected to be consistent with susuining maximum 

employmmt and sl.!ble inflation in the foroger run.' In 

contrast, the drang<)and first.<Jiffe<cnoe rules fl"SC'ibe 

how the levcl olthe federal funds""' at a given tin1e 

should be altered from i~ pl'<'liou> iel<!l-1,.1 ~.they 

indica II' how th• el<isling m1e shoold chMgc IY>'etlillle. 

The adjusll!d Taylor 11993) rule recognizes d~althe 

federal funds rate cannot be reduced materially oolow 

zero, implying that inll'r<>SI rate policy alone n~ay not 

be able 10 provide enough pot,cy aocomrnodation 

during pe<iods "lren the unadjusted Taylor 11993) rule 

prescrbEs sc<ling d1e federal funds role below zero. To 

make up for th<>cumulati~shonfall in :1<:comnrodation 

(l), the 1djU>Ied rule fJ<escrib<s only • gtadual recurn 

of""' policy rate 10 the (positi\oe) le-.'4'~ prescriled 

by ~Je una4jll!l!<lTayiCl! !19931 rul• i~llte~my 

re<:o~m. 

The small number ol vari<lbiC> invoh..d in policy 

rule. makes drem easy to use. However, the U.S. 

''"'"" R,., 5<11"'8 by rile f""""'n c.n.QI S.rt: /OCJINf of ollotlol")' f<Ot>OtJ'ilcs, vol. 43 l}o.llt~ pp. 655-79. Fonal~. tht r,.,..Mf.-:• rule...,.~ byAII.....,oc•O!pll>nkk 

t2C03J, 'l!Oootical M""'"'l' l'olo<y .W~'lis •nd !he liylor 

Rult,' ,..,.lo/Moneul'f C<X»>mer, vol. SOOU~> pp. 983 

lOll. A<"""""'""'" .,,...olpclicyrules is In John 8. l•rlor ~1<1 )<11n C. Willomsi2011J, "Sompl"nd Rcburl R.Aes forM ..... ryll>lio:y,' in8¥inM.frie<lmanilldMochael Woodford, edl., Handbool< o/Mot~t~ary Coooonics.\'01. 38 

(Arr61«dam: \or<h-Holf>ndl,fl>. 829-$9. l1re """volume ol tht Handbook of A"""'''Y ~ ii!OdO<""" 

'flPIO'ches "h" Nr1 policy rults le< dtriW>gpolicy r>tt fl"'C'll'k>nr. 

), Tho IO)Iort199l) rul• ""'''"'«! s~o:k on""'""" utilil.lr.on """ an ....,.., gap ;rhe diff'""'' b<1wttn !he ,.....,,~<vel ol , .. , ..... - prodUOllCO!'l "'d ...... COPWO!Adbe t lht economyvt.1s ~urra atmllx•mtm 

e~"""') Thorultsinf~Ar"'"""'sbci< .,..,.,_ 

"''"'""'~!he unemploymtm 8'1' l,...d,""'""" lllat 8'1' ""'" caprures the !<doni Open ~Wl< .. c ...... u..~ 

sututory pliO promO''" nv.xtnv.JT~ f"'l'Po}mNt. MOio'tments 

lA these afltm~IIW MtaStnSei moutCt utJiil<lll(li'J art highly cme!.1ed. For more •rlormorlon.,.. tht..,. below r~A. 

4. 1'11o<<))1"tul,._.,.,ludongJ00nl')'lot'$""8iNI 

ru~ often bttn ~ii'I'Qoed aSMJn'i~ that the val~ of 

dle nt'IJ:tal re.lltlii?IW r.ur in !he- longer OA rJ, IS equal to 

2"""""' •ilichroughly~ to the"""&' h0$!on<ol "''"'of the re.l ffd«al runds r>lt btfort tht fin..O.I a,..., 
99 


71317040.eps

MOS£1AAY POliCY IU'PORT: JUlY 2017 37 

A. Mooo:till}' po ~y ndes 

Tayb(I99J)rulc 

Tayb(I99J)rule, 

adjusted Rrncu!i =maximum (R[93 - l 1, OJ 

Clmngcrule 

Finl-difftn:ncc rule 

N011t R/". • Rf""'J, Rf. and R[• r<pn:scntthn1lucs of Ill• nominal r«<.,al funds rut< pm<ribcd by rho 

T•ylor (1993), balao<<d-approacb,adjusted Taylor (199l).<hange, and 6!'lt-dift'erto<~ rul,., rt$pC<ti-.ly. 

R, dtnotcs lhe 11<tualooroinal f<dcrul fuuds rate forqllllrtcr t, "• is fo~~r.quartcr price inllauon for quarter r,lllld 

lit isthe un<mploymentrute in quanert. rf'" the kvel of the neutrulreal federal fuuds rate in the longtr run dlat. 

on 3\'tragc, 1s cxp«tcd to be rorwstcot \\.ltb $U.staming malimum empiO)lDCnl aDd inllalion at ill" 2 pcn:tnt longer· 

run Ob)C(IJ\e, •"'· ... is the rate of 1lll<mployment iothe longer run. z, istbe eumulaHvc S~Jm of p<~St de>iations o( 

tbe federal fllllds rate from tbe prtseriplloru of the Taylor (1993) rulc when tbJt rule p«Senbt$ !tiling tb: federal 

flll!ds rote bel .. zoro. 

TheTaylor(199l) rule aododl<r policy rules arc !}'D<rallywriuen in terms ofdle dev!auoo of n-al output from 

its futlca :~< t) k>tl.lntb.,.cquations,tbc output gap bas been n:p :~<«<•itb the gap bet• ceo the rate ofun<rn· 

ployment in tbelong<r run and its actual lcvd (using a relatiollllllp known as Okun'slaw)io order to rtpre!<nt dle 

rules io terms of the FOMC's S1lltutory goals. Historically, mo~<ments in the output and un<rnployment gaps have 

been lugblycorrtlated. Footnote 2 proooes n:f<r<""" for lhe pobcy rules. 

economy is highly coonplex, and these'"""· by their 1"')' nature, do not capture that complexity. fOf 

example, •ilile the unen~lo)ment rate is an important 

mea!U!o o/ ~lC Stile o( the ~bot mark(j, it ol1en Jags 

b<Jsiness cycle cJe,-elopr....., ar>d does r101Jirovide a 

complete measure of si.'lck 0< tightness. In (K'ttice, 

r.der>l Open Marm Conwninee tfOMCJ polkymal<ers 

eo<arnine a great deal of infom~ation about d~elabor 

marke~ to gauge its hcalth; d1is inionmtion includes broader"'""""" ollabor underutilization, the !abo< force panicipation rate, employmen~ hours worked, 

and d1e rates of job opet>ings, l1irirog. byoli~ •nd quill, 

as •elias anccdocal infom1ation 001 easily reduced 10 

numerical indexes.• 

Another issue rclat<d 10 the implementation ol "'"" 

on"'""' the rneasuremcnt of the wriables that dril'e the 

~lions 8""f'ltOO by dlC rules. fOf example, there 

are many measure. ol inflation, and they do not a~v.oys 

n101~ toget!M!f 0< by the sarne an101mL The broodest 

measure ol irtflation, shown by the percetll change 

in the gross don~c product prioe index, disjJia)• 

notable differ-.nces lrom rne.>suros that gauge dlang<!> 

in oonsunlef p<i<>l$ (figure BJ. £1"" measures that (()(US 

ICO/IIinuOO on nexr P'JeJ 

5. forad..,......,d,_....,_meln"dlllebbor n.ru...,. Hts<Chtll& BNC• falld, Chllltophtr ~•brd.l. 

8. Jnflalio:nmeasblt$ 

-

- I 

I I I I ! ! I I I I I, I I 

2001 2003 2005 2001 10)9 lOll 1013 lOIS 2011 

$0.10QoGowo--(GDr) .................. 

~~MJ{J'(l)dllffticatlf~IIO(~AIIII~Gfoo 

Damtt~~c Pru~u:t '-PiiN rnn Oer.-or (Gl>Pf'lf.f) -' Pt~scNt 

~f);pcadiiiii~Q.,tmco.'t'ldNFRED.F(drraJldm"Bato! 

Sl.l..cw;otiUIU*JtflCt'llllla4ala•frtmlbt~oll.abcw, 

s-.orl.llb:lr~ 

and O.Vod RO!nor{2014l'A....,;.gohe0,.nge ;.labee ~teoodiions.' FillS ~O<os{I\'..Oing~oo: Boordd c;o...,..., ol lilt fedtrol R,,..,. S)>ton, May 21l "op<JI 

•wwledtl;oi"""•·P>'e<orr"'laWnoles'feds-s/201</ ...... ing<~in-bbor......W""""'""''20t4o;22. 

hlml 
100 


71317041.eps

38 PAAI 2: MO\ITAA\' POU(Y 

Monetary Policy Rules and Their Role in the Federal Reserve's Policy Process r~1 

on ~~e prices (laid by oonsu"""' differ importantly. 1'0< 

exanlflle, inlblion as """sur1!<1 by d"' consume price 

index W CP1) has generally been SOille\\b.lt higher 

his10rically lhan inll.ltion n~easured using 1he PCE pri<.e 

in<lex !the index 10 which 1he FOMC~ 2ilen:l!f~ Ionge<· 

run inOation objective relen). Core itOation, meaning 

inlblion e>«:luding changes in food and energy prices, 

is less volatilelhan headline inOalion and is oitell used 

in estimating """ldary policy mles because it has 

historically been a good predictor of future headiP1e 

inlbtlon lf.gure Cl. 

In addition, bo1h 1he lel'el ollhe neutr.ll real 

inter<>~ ral!' in d>e longer run and dte level ol d>e 

unemploymrol rale lhat is sustainable in 1he longer run 

arediifM)Jitto es<imate precisely, and estimates made 

in real time m.ay dif(er substanUalty from estimates 

made bte' on, af1cr the rele\"MMI. economk d.ata 

have been revised and additional data h.Jve beoomc 

avoilable.' for example, since 2000, respondents to 

1hc Blue Chipsu~"'l' M'C marl<edly reduct'd lheir 

projedions of ~e longer<un lel~l oi 1he real short· 

term intcrcs1 rate I figure D). ~ respondents haw 

also madeoonsiderable changes"'"' tin"'10 their 

estimates of dte rate ol uncmploymcnt in the longer 

run, wilh oonsequcnces ior 1he unemployment gap. 

Rc\isions ol this magnitude Ia the neu1r.1l real interest 

1<111' and the rale of uncmploj·ment in the longer run 

an have important implications lot the led«> I funds 

rale prescribed by n1011et1ry policy rules. Sensible 

estimation of policy rules requires dtat poficymakers 

tlke into acoountlhose changes in the projoctcd values 

of longer-run rates as they occur 0\U lime. 

r u~hermore, the prescriber! rcsponsh<!ncss of the 

federal funds rate 10 ils delcmtina ~ differs aerO$$ 

policy rules. lor example, the sensitivity olihe iederal 

funds rat<! 10 1he unemployrn•nt gap in dte babnc<!<lapproach nile~ twi<c as l>rge as it ism diC la)lor 

(19931 rur.. The raa that 1he policy;,....,."'"' 

A!!ponds fferEt~tly to 1he inflation and unemployment 

gaps in tlte fferer~ policy rules me<~ s that the rules 

provide different tradeolfs between stabilizing inllalion 

and Stabilizing uncmployn.,... 

finally, monelilry policy rules do notukucoount of 

broader risk oonsiderations. FO< ex.1rnplc, policym•k"" 

6. Tht cllofl# ard fir~<<llif_,. rults -~~ m figwt A 

~the n<ed lcrgood "'""'''""~HIJO rolOS btatM t~ do not tt'qllite 1n tWI~te d !he ott.~~ro~l real 

~ ratt il'l ft longtr n.n. HCM'Mt. lhest rules Mt 

the" own -118'· f<>rtxamplt. ,...,,h "'8S<"• 1hat 

such ruk>s will muhln grt.lltr volatil1ry" urploymt'l'll ~nd 

intla6on ttla.tiveto Vltlal "'oold be oWinfd under lht Tl)'lor 

199l)andbof~rulesunl"''"'..,'"',.,ol 

the neural rt>l federal fl.lldsrnle inlh! long« run and the 

rate ol """'f''oy"""''n th! lo"'r 1111 art ..,rllcierltly lar ri'Ofl\ thelt trut ve~h.li!'S. 

routii)Ciy ~ssess risks to f11cmciil stability. furthermore, 

overlhe pcasl iew years, wilh lite federal fund> rate 

still dole to zero, ~"' FOMC has recognized that it 

\\~uld haw limited 5alf'C to respond 10 an unexpcctcd 

""'kcning in 1he r.oonomy by lowering sho<t·trnn 

intC!cst rail'S. This asymmetric tisk has, in co~m 

years, fX0\1kled a sound rationale for following a more 

gradual path ol rale increases lhan !hat prescribed 

by policy rules. iAs)mmctric risk need not always 

provide a Qtionale for a more gr•dual path; ifliiC rish 

"~""strongly lilted toward sdls~anti.lland pcrsisl!ll• 

ovorl~eat ng arid too-high inll.ltion, tiM' asymmetric 

C. Total inl'llboo \trsus oore inflauoa 

- ·- -· 

- l 

-l 

_, 

-0 

- 1 

0 caJ..ItmcdtimmoflhenrunalrcaiJnll'~ 

rtlr and lhc Wlcmploymml n.1c: in the looga rm 

.... .... u - -6.! \0--- ~IINinlft'lllilllcml 

u \ ~m6rloosan. u 

u _,. U- '\._ -S6 u - u- _,. IJ- -Sl 

16 - so lAll - - U 10- r-ed..,.,.,. "- - H J- ........ II: J 

_ .. 

~ Tk .. WW.-cd.IC\lhlral_..~atilflc1olfct• 

-·~~nkifl6rlqcrtlllart~-t.M 

bl:cD~·rd!~mx..Thc....Wot'i:aii.W.a 

nlt•lk)q«ND«ppis6t~·n:df~bdla~tpRIJCdata 

flt~rr~~dclmlbykllq·rtll~--du!Fm*raor 

.......... ~tn· 'A'cicolilq -~ .BIIIeQip~Ja.bc-.s. 
101 


71317042.eps

risk ooutd a~ue lor higher rates than ~bed by 

simpl•rules.J 

How does the FOMC use monetary policy 

rules! 

In the bri<'fing n~al<'rials prepared lor f{)MC 

maooings, Federal Rese~" sur! regulo~y ~toport 

~iptions for th<'. current setting ol Ute ledo>ral funds 

ra~ rom~ numb<>< ol monet.'lry policy ruk>s.' fOMC 

policymaken diswssed prescriptions from mo~ry 

poUcy rules as long~go as 1995 Mid"''"' <:ori!Uited 

them routinely since 2004. The materials that fOMC 

poliqmaken""' also include lorecas~ of how the 

federal funds rat~ and key n>;ICIO incfoc.ti<J<S 1100ld 

evolw, und<'J ead• of dte rules, l<!l<e<al years into o.., luture.l\:>licymakers weigh lllis irlorm>tion, along willl 

other rriormallOfl bearing oo the economic outlook.' 

Difier61l mooetuy policy rules ol!ro olie< quoe 

different prescriptions lor the federal luods rate; 

nlOKOYel, there is no obvious metric fO< fiiV!lfing 

one ruleOV<'I' another. ~ile <110<1Clarypolicy rules 

7. l'm<riptiolo '""" """""'Y polky.,..,. ... incbled WI the Board!l>li's l•.>lx>ol< ~p«~'iMiy t.. BkJ<booi:J; '"' 

p..o.t ,., of rules fll1""l"d "" dlang<d ircm ,,,.. 10 """· 

Tho IIOnscri~ ondllrithogm.ll""l' f01 FOMC-ings 

dtrooghiOil•II'Mil;bl•ooti»Boanl'swebsit••ti"'P"" 

,_.Jede,.l..,._. go.imon<t•~polkyA<>mcJ•,.,.o<al. 

htm.ln tile moJterials irom 2011~ che pohc.y ~loW prescri~ 

ato<OIIIJtned in the Mooewy Policy SU.teg"' section of , .. books. 

8. !Ml:ri.e6ng rmtm~ls tNt FOMC poliqmaken tf\llew 

resu~oiy "'<lo:l• the Boanl ... w. b;sel•ne ._.,for'"' ~and !YlOdtl simulauonsd a variety of altM'lalM sctnJrios""""'-<itol""'id<JstnstOftheoiK!sofooJ•« 

pl ... >ble cre..lopn""' ''"' ~ ... ""' lndl.<i<d '"'"' .. w. baseli~ loreast. 

-

M0'£1AA'i POliCY IU'PORT: JUlY 2017 39 

oltm agrEe about dte diroo.ion lUI) Of 00.11) in 

11itlch policymake.s should 1110\'e the ledo>ral funds 

ra~. they frequently a .agree about !he approp<ia~C 

""'el ol thatraiC. fiis,..ical p<escri~ions from policy 

rules differ from one anolhet and also differ from the 

Comm ttoo~ 1<1~ lor Ute federal f..lds ra~. as lho11n 

in ftgure C.!lh<!* p<esctiptions are e>lculated using 

bolh the actual data and ~he estimates ol tlte neutral 

real inl<reSt ""'in the long<'J IIJl ~nd ol the r>teol 

unernployntent in the long<'J run-data and <~~t mates 

d>al were ~vailab e to fOMC policymaker. at tlte 

time.J MorOOI..,., tlte rules ;on..Vmespresaibe setting 

shon·term int<'Jest rates well below tero--a seuing 

tl>at ~ 1104 fe.sible. Wilh t~ "'"'Ptioo ol the adj~ 

Jaylor 11993) nlk>, 114tic:h nnposes alow•t limitol 

zero, all ol the rules lhown in Ogute E called lor the 

federal funds rate to tum negatii'O in2009 and IOSia)' 

below zero lor ~al , .. ., thereaflel. ll>us, these rules 

indicated that the re&>ral ~ .. should provide more 

lllOileCary stimu Ius than could be achie\w by setting 

d>e federal funds rate at Z<'JO. While all ci the policy 

mles "''" ca lied lot higher wlues of tl>e federa I funds 

""'in recent l"'"' thepaceoltigf~ening that the rules 

~ibe has wried widely. Prcsaipcions from these 

rules lor d>e level ol the feder•l funds"'"' inlhe Orst 

""ncr of 2017 r.111ged from 37 basis points tchange 

mle)to 2.5 per<:etll tbalan<:etl·"fllltOad>tuleJ.' 

9. As not«J tarli(1, the adjusted rule limits iKJt.&ses in IJit 

fedml (ur.fs.nt.e for a llrntdtl'lng «<CJOmK: recoveries 10 

molt 14>f0< po•shortfalb '"'~ion ""stdbythe zm lower limit on iOleteSt r.llts. This pnnctplean alsobt 

•pplo<d 10 the JI"'''jxions of tho> other rules. W appliod 10 lh< ba~~rule, f<l<..,.mplt, •would hoveallrdfor tftefodml fund> •••to hoi< ,..,.in<d., ,.,. "le;tSlivough 

tft•for~~qua ... ofl017. 

_, -· 

- J 

. 

-· 

_, 

_, 

- t 
102 


71317043.eps

40 PAAI 2: MO\ITAA\' POU(Y 

Addendum to the Policy Normalization Principles and Plans 

Adopted ~fiec~ve Septembtfr 16, 2014, as amended dYecwe/une 14, 20 17 

All panicl;l.1n1S •gnl<d to augment ihe CoiMlittee's 

f\>locy NO<malilatlon Principles and Plans by providing 

ihe following .dditiotlal ~ai~ tegarding ihe 3PIIO)ach 

ihe fOMC imefl<k to U1e 10""""' the federol 

Re!e<ve's holdings oiTreasc<y ond agency securities 

onre oormali:c.tion of the ltwl of d~e feder.ll funds r>te 

is wellt.mder w:ry.' 

The Coonmittee inlends to gradually reduce~ .. 

rm-1 ~.,.s S«Urities holdings by de<reasing 

its reinvestme<~ ofthe principal payme<1~ it 

receiles from securities hold in the System Open 

Market Aa:oonL SpecifiCally, sum payn1en~ will 

be reinvested only to the ""tent !hat !hey eoccood 

gn...,lly rising tafl'· 

0 liJJ payments or principal !hat the fede<al 

Resesve teceives from maturing T re~sury 

seaJritics, the Committee Antidpates !hal 

d1e cap will be S& billion pe< 1oond1 initially 

•nd will increase in steps of S& billion at 

lhrec-monlh intervals O\t.'f 12 mood.s until it 

reaches SJO billion pe< moolh. 

0 for payments or principal !hat the fcdcr:ll 

Res<'J'/0 rec:cil<s from its holding< oi agency 

dMtind niOttgag(f.il.ldicd !«~lilies, the 

Commiuee anticipates that the cap will 

be S4 billion pe< monlh inrtially and will 

incre.tSe in steps or $4 billion at lhree-monlh 

intcrvak 0\~r 12 months until it reaches 

S20 billion pe< month. 

1. The CorJwn,ttfre's PoliCy \OI'fn,a.liZaliOn Pnnc1ples and 

Pbns v.'l.'re ~ «t Sepember 16.1014, and are a~'atiablf 

"""w.ftd<rai""'M.~iC)/Ii!e!IFOMC_ 

ll>li<y~ormohuuon.p<J. On t.11rth 18, lOIS,"" Cclm""'"' 

~«< an..sdendtm to tl>. Polocy '"""'h"""" Principi<s .~:nd Pbns, which Is avaibble at ~A-v.wJedtral~rve.p/ 

"""""'JP'focyJ1i!e!/FOMC_I'olocy'om"l.uiJOII.l0150l18. 

p<l'. 

o fhPCommitt~Jeakoanticipates lhatthetafl' 

will remain in plareonre they reach dlcir 

respecli"' maxinlums so lhat UIO r ed<>ral 

R~s ...:urities holdings will oontiooe to 

decli<le in a gradual and predia.ble manner 

untillhe Comrninee judges lhat ~"' federill 

~~ is hold;,g no mO<e socurities !han 

necoss.>ry to it...,le<nent monet~ry policy 

eifJCiently and eifeaivcly. 

Gradually reducing the federill Resen~'s ...:urities 

holding< will result in a declining supply of""""~ 

balances. The Committee anrently antki1xnes 

reducing~ .. ""nlity of'"'"'"' balanct'S, o'"' lime, to a le\-cl w reciably below !hat seen in 

""""t l""" bot larger tt>.n before tim financial 

crisi~ the le\'el will reflect the banking system~ 

demand lor resen~ balances and lhe Committee< 

decisi001 about hO\v to implement monetary 

policy most E'ffJCiently and eileai•~ y in the future. 

The Committee cxpec15 to learn more abotc the 

underlying demand [Of reserves during !he pro«SS 

of balance sheet oom~aliution. 

• The Committee Affimts that dlanging tile target 

··~ for tht! federal nrnlk rat~ is i~ ptintary mea"' ol adjusting the Slanoe ol rnoncury policy. 

l-lcl\\'0\<!f, the Committee would be prqmed 

to resume reili<!SIOient ol prir4Jal payments 

recei\'Cd on securities held by dlC fcdcr:ll RcseM> 

if A ntatcri.ll ioration in d.e economic 

outlook wer~ to wal'l"anl a sizable reduction in 

the Committre~ tl<gel ior the fcdcr:ll funds rate. 

Morro""· the Commiuce•.oold be preporcd 10 

use its full rnngo ol 100~. including altering lhe 

si1eand oomposoion of its balance !heel, ti future 

eoooomic condilions 'vere 10 warrant a more 

aecx>mniCldati•-e monetary policy !han can be 

achie\'Cd solcly by reducing ihe fede<al funds rate. 
103 


71317044.eps

41 

PART 3 

SuMMARY oF EcoNOMIC PROJECTIONS 

The following materia/appeared as an addendum to the mmutes of the June 13-14, 20 11, meeting 

of the Federal Open Market Committee. 

In conjunction with the F~deral Open 

Market Commiuce (FOMC) meeting held 

on June 13-14. 2017. meeting participants 

submiued their projections of tbe most 

likely outcomes for real output growth, the 

unemployment r.ue, and inflation for each 

year from 2017to 2019 and over the longer 

run' Each partidpant 's projection was based 

on information available at the time of the 

meeting. together with his or her assessment 

of appropriate monetary policy. including a 

path for the federal funds rate and its longer· 

run value. and assumptions about other 

factors likely to affect economic outcomes.' 

The longer·run projections represent each 

participant's assessment of the value to which 

each variable would be expected to converge, 

over time. under appropriate monetary 

policy and in !he absence or further shocks 

to the economy." "Appropriate monetary 

policy" is defined as tbe future path of policy 

that each participant deems most likely to 

foster outcomes for economic acti\ity and 

inflation that best satisfy his or her individual 

interpretation of the Federal Reserve's 

objectives of maximum employment and stable 

price~ 

8. Four membtn of lhe Board of GOI<rnol$. on< 

fewer tbao ro Man:h 2017. wen: io ollict attbe time 

of the June 2017 meeting and submmed o::ooomit 

proj<ciJOOS. The olli« of !he pre>idenl of tbc Federal 

Rcsm~ Jlonll of Richmood ••s >'il<'aot atthetimo 

or this FOMC -ing; Flrsli'JC< President M>rk L. 

MulliniX subn11t led «:eooRJC pro)OCtions. 

9. All par!icipaniS submrucd lh<1r proja."tions m 

advaoce or Ihe FOMC meelmg; DO PIOJecliOns Wtre 

revised folloo·mg the release of o::onomit dara on the 

morning of Ju .. t4 10. O!le panicipaot did not submit loogcrollJo 

proj<ctioos for real output growth, the unemployment 

mit, or tbe federnl fonds rnt< 

All participants who submiued longer-run 

projections expected that. under appropriate 

monetary policy, growth in real ~ross domestic 

product (GDP) this year would run somewhat 

above their indi\1dual estimates of its longerrun rate. Over half of these participants 

e.~pccted that economic growth would slow a 

bit in 2018, and almost all of them expected 

!hal in 2019economicgrowth would run al or 

near its longer-run le\•el. All participants wbo 

submiued longcr.run projections expected that 

the unemployment rate would run below their 

estimates of its longer-run normal level in 2017 

and remain below that level through 2019. 

The majority of participants also lowered 

lbeir estimates of the longcr·run normal rate 

of unemployment by 0.1 to 0.2 pem,'tltage 

point. All participants projected that inOation, 

as measun.'ll by the rour-quarter percentage 

change in the price indc.~ for personal 

consumption expenditures (PCE), would run 

helow2 perttnl in 2017 and then step up in 

the next two years; over half of them projected 

that inflation would be at the Commiue~:'s 

2 percent obje<.1ive in 2019. and all judged that 

inflation would he within a couple of tenths of 

a percentage point of the objective in that year. 

Table I and figure I provide summary statistics 

for the projection~ 

As shown in figure 2. participants generally 

e.~pected that evol,1ng economic conditions 

would likely warrant further gradual increases 

in the federal funds rate to achieve and sustain 

maximum employment and 2 percent inflation. 

All bough some participants raised or lowered 

their federal funds rate projections sinre 

March. the median projections for the federal 

funds rate in 2017 and 2018 "-ere essentially 

unchanged. and the median projection in 

2019 was slightly IOI\Cr, the median projc'Ciion 

for the longer-run federal funds rate was 
104 


71317045.eps

42 PAAll: SUMMARY Of£CO\OMIC PRO)ECIIO\ S 

Table I. Economic projections of F<deral Resen<lloard m:mbm and Federal Reserve Bank presidents under tlleir individual asstSSments of proj<ctcd appropriate moDCtary policy. June l.OI7 

""'"' MNaal Cct~llll~~ R.qo' 

\'ar\JHt 

2011 1l:llll W"l9 L"'" 2011 1 Jli$ 1 2!),9 Loo;w M1 I 2011 I ~19 I "::' ""' ... Cbanet cn rta1 OOt 2.2 ll 19 IJ 2.1-ll u.2.2 I~ I.J..lO 2,0-lj 1.7-2.} U-ll! I.S··H 

Mlrd!P'~ICG ll ll 13 IJ lO-U U-ll I~ U-!0 1.7-J.l 1.1-2.4 I.S-Uit'-l.l 

l'~talt ...... <J ..:! <l .. 4.2....0 ......) 4.1-1..4 "-S-4.$ U -4.5 )J-4.5 3.1-<.si u.s~ 

M.ch 1~\.,c'di.:G. •s u <! 0 <.S-4.6 4.3-'6 4}.4..1 4.1-M "-'1 C-4.1 H-4.1 l4J-5.0 

l(hlbloco 1.1 lO lO lO 1.61.7 UlO J.G..ll 2.0 J.S-1.3 IJ-ll u l1! lO Mlrch P'qeal ..... 13 lO lO lO I.S-2.0 1.9-!0 2.0-l.l l.O 1.7-~.1 1.>-1.1 1.$-Ui lO 

CmPCEm~• 1.1 lO lO 1.6-1.1 1-J..Z.O 2.0-l.l 1.6-1.$ 1.1-ll 1.$-Ui 

\tatdlff\ydi.:O 1.9 lO lO 1.81.9 1.9 lO lO 2.1 1.12.0 U-2.1 UU! 

m«Pl\~ 

Jft~r.:fN!tp.ii:) p~~h I Fcdmllial'ldsralt . "' ll l.t 10 1.1-U 1.9-16 U-ll U-10 1.1-1.6 1.1-11 1.1-U iB-lS 

Mmp\'ttdll.'lll .. 1.< 11 10 10 U-16 2.1-2.9 16-J.l U-10 0.9-Z.I 03-J.< ~9-l.9i H-lJ 

~~(J/<Uitt•MI..-..... pl)d..:~I<J>PJ .. ~htolb.-..ot~lnpmlllltU,.faiMblrtbq.-laclflcf"'lOWJ"AA • 

k,_.qw~~rot_,_.._.,PCE....__.«cPCEII&IaM._ ..... Illllllfl._lt•.~·-fllotlldcs.lwJ'CI'K'(IIIoo-.r:oc-~m 

(PC'EJ .. kP"t:~tlliklbPt't~i)od ... CitfV,....brk~l .. tlftbikMfiPU'oW_,...,_.nlfillllebdq.rllll'oi~JW 

....._fA~..-artt.llot .. orkr---tlt~__,.P*):~.otp .. ~.--~)....-.d~rMc 

1011ti:bftdiV&'III:*IIOIWbrGf«<td110ClWflttJ'I-*t~..wypoi.')'lllll•~~otflrH6«biiO~~.T\c,..._bGttr.nl .... 

llllart~•tl~..,.ti~JifO:IICt*ill~~arJ~t"'IJrfort.tWmr._.,.«.,pqclld~-...l(lll(bltwr.-..,.. •• .,ClMitl~ 

tptediedaAM~r,.,«C~'nllltlooJif,.... nc wm,._.. _ _,•ca.j-=-.,•• --,c~ac hddOpa M.utt-u«~:a Wudii'-IS, ::Ot1.0w 

pn0fiiii4WIKIIIAtmtbpr.pqr!Ciioub~ct...,illal<iDf"t.t...,.._..,_ • .,ort.troimlrlllds~~~tiiCOifiiiiCI*:IDdlllkMifdilf..lS,201'l.~lllll 

CIOCJIIRQJIMI .. IOI .... ftG,.,.._.~11111ik.IDrl}.lf..Jtl1 __,. 

t_ Rw .. fCiiod.-.r ..... ., ..... ,...... .. .,~art.,.....r,..,...~"'~.,...mor..,..._ • ..._~~~c_..• .. -. oi6tfWOIM!k~ 

t l'MOIIItnl_,_,.Cidlillll--......... ,.loMM~bM11n11*10ftdl,_ 

). .,., ... .,..,. •• ,....,..lld •• ~ ... l(~----...... b-_.., .... ,.. ' ~-,.....trCICiftPCf: ....... MIOI«<«.ifd. 

unchanged. llolllwcr. the economic outlook 

is uncerlain, and participants noted thatlheir 

economic projections and assessments of 

appropriate monclary policy could change in 

n:sponse to incoming information. 

In genc~al. participants 11ewcd the uoo:rtainty 

attached to their projections as broadly 

similar to the ave~age of the past 20 yea~ 

although a couple of participants saw the 

uncertainty associated with their real GOP 

growth forecasts as higher 1han average. 

Most participanls judged the risks around 

their projections for economic growth. the 

unemployment rate. and inllation as broadly 

balanc.:d. 

Figun:s 4.A through 4.C for real GOP 

growth. the unemployment ~ate. and inflation. 

respectively. present "fan charts" as well as 

charts of participanls' currenl assessmenls 

of the uncer1ainty and risks surrounding 

the economic proj<."Ction& The fan charts 

(the panels althe lop of these lhree figures) 

show I he median projections surrounded by 

confidenc<J intervals that are computed from 

the forecast errors of various private and 

government projections made over the past 

20 yea~ The width of the confidence interval 

for each variable at a given point is a measure 

of forecast uncertainty at thai hori7.on. For 

all three macroeconomic variables. 1hese 

charts illustrate that fon.'Cast uncertainty is 

substantial and gc e~all y increases as the 

forecas1 horizon lengthens. Rellecting. in part. 

the uncertainty about lhe fulureevolution 

of GOP growth. the unemployment rate. 

and inflation. participants' assessments of 

appropriate monelary policy are also subject 

to con~de~able uncertainty. To illust~ate I he 

uncertainty regarding the appropriate path for 

monetary policy, figure S shows a compa~able 

fan chart around the median projections 

for the federal funds late." As with the 

II. Thefan chart forthe federal funds mtedepicts 

lhe uncenaioty about the future p31h of appropriale 

monelary policy aod is do,.ly conn<ded •ith tlle 

unoertainty about the future value of (C()nomic va.riabks. 

In rontrast, lhedot plotshown in figure 2 displa)>the 
105 


71317046.eps

MOS£1AAY POIICH!POIU: JUlY 2017 43 

Figure I. Medians. a:nuaJ teodenci<s, and ranges of «.'<>nomic projections. 201 H9 and OI"<T Lbt Joog<r 111n 

"""'' Chan&<iiii<OIGDP 

- Mo.tiuofrtOJ''C._.._ 

ac .. n~.......,<I""•JC<-

ftat~lt'cliXC~'Ci 

~ 

- l 

~ ~ ~ C5 

-L 

-l 

Muot _, 

2012 201) lQ I~ lQJS 2016 2017 1018 2<))9 lonp 

run 

"""'' l!ntmplo)111eotRIC 

- s 

~ -1 

_, 

a;; - ; 

;;;;;;;;; ~ ~ -. 2012 l<)IJ lOll lOIS Jll6 2017 2018 21119 lonp 

""' ,._, 

PCEmflation. 

-) 

~ 

~ 

a= -l 

!!E! -'-

-I 

2012 2013 lOI~ lQIS 2<))6 2017 1018 2<)19 lonp 

lUll 

"""'' Cure- PC£ mtbtiOil 

-) 

~ -= - 2 

------------ -= -·-

_, 

lOll l<)Jl 2<)14 lOIS 2016 2017 2018 2<)19 lonB<J 

""' Note: l)dinilloos tl \'&n3-bks tnd Olbtt rltpbnat1oos arc i11lhc noccs to table I. Th~ data for 1~ utual \~UC'S i)( the \';lriaNt$ artQilo:U31. 
106 


71317047.eps

Figure 2. FOMC par1icipan1s ass...sm:niS of appropriale moo•'IM)' pOlicy: Midpoin1of 1arg<1 range or largtl 

ln<l for lbefedtral funds rale 

...... -------------------:---------s.o 

................... - 4.S 

···········i············· 

-------------------;---------40 

' -····························· .. ···································· .. ································································- -···············"''''"'''''''''''''''''' ''''''''''''"''''' '''''''''''''''''''''''' '''"''"''''' '': ............... ............... - l S 

-·············· .....................................................................

• ................ , ............................... ,_ • • •• ----------------~------_. • •• ~---.--+--+-+-- ~ 

-........................................................................................................... ................. - .I. tIe I 

................................................ ... .................................................... ............... _ 2.5 • I • • I 

.................................................................. 

----------------~ ~--------------~·------------- w 

l.l 

........ _OS 

-------------------------------------------------M 

2017 2018 2019 

N<m: Eadl shod«! cud< md"''" llle >'Oiue(round .. •o 111< """"' /8fl"'CCI~.~g< po<nt) <1 •• Oldividllll participant's Jlldlmmt el l~ midpoiD'I o( the approJ:r~lte btSC'L rl!tgC l'ot the fcdmi funds Tale (It the apptCI(IOIIC tar,.-t ltH~ f(IC lbc rcderal n.Jid$ ralt ~I the md ohlle $pecitkd cakndar )'tat Ot 0'1\'f . the lonf'.T nm ()nc p.nUap:uHdlJ QOl subtrut loop·run projectl<lDS 

forlh<folmlflllldsro~e. 

macroeconomic variables, forecast uncertainly 

for the federal funds ralc is subslanlial and 

increases at longer horizons. 

The Outlook for Economic Activity 

The median of participanls' proj<lclions for 

the growth ra1c of real GDP. conditional 

on I heir individual assumptions about 

appropriale monetary pOlicy, was 2.2 percent 

in 2017,2.1 percent in 2018. and 1.9 percent 

in 2019: I he median of proj<.'Ctions for the 

longer-run normal rate of real GDP growth 

d1spersion of ,;..ws across iodi>ldulll paruc.ipaniS abou1 

tbe appropna~e In<! of the fcdml funds r.uo 

was I .8 percent. Compared wilh I he March 

Summary of Economic 11rojections (SEJ>). lhe 

medians of 1he forecaSis for real GDP growth 

over the period from 20171o 2019. as"-ell 

as the median assessment of the longer-run 

growth rate. were mostly unchanged. Fewer 

than half of the participams incorpora1ed 

expectalions of fiscal Slimulus imo I heir 

projection~ and a couple indica1oo that IItty 

had marked down1he magnitude of expected 

fiscal slimulus relative lo Mardi. 

All participanls revised downlbcir projeclions 

for the unemployment ralc in I he fourlh 

quarter of 2017 and of 2018, and almos1 all 

also revised do•ntheir projc'Clions for the 
107 


71317048.eps

unemployment rate in the fourth quarter of 

2019. Many who did so cited rocent lowerthan..:.,pected readings on unemployment 

The median of the projections for the 

unemployment rate was 4.3 percent in 2017 

and 4.2 percent in each of 2018 and 2019, 

0.2 percentage point and OJ percentage 

point lower than in the Mareh projection~ 

respt:ctivcly. The majority of participants also 

revised down their estimates of the longerrun normal rate of unemployment by 0.1 or 

0.2 percentage point. and the median longerrun level was 4.6 percent down 0.1 percentage 

point from March. 

figures 3.A and 3.11 show the distributions of 

participants' projections for real GDJ> gro"1h 

and the unemployment ratefrom2017to 2019 

and in the longer run. The distribution of 

indi11dual projections for ~~,-a~ GDP growth for 

this yc'ar shined up, with some participants 

now expecting real GDP gro~>1 h between 

2.4 and 2.5 percent and none SC<!ing it below 

2 percent. The distributions of projected r,'al 

GDP growth in 2018. 2019, and in the long<r 

run were broadly similar to the distributions 

of the March projection~ The distributions of 

indil1dual projections for the unemployment 

rate shifted down notic.'ably for 2017 

and 2018. Most participants projected an 

unemployment rate of 4.2 or 4.3 percent at the 

end of this year. and the majority anticipated 

an unemployment rate between 4.0 and 

4.3 percent at the end of 2018. Participants' 

projections also shifted down in 2019 but 

were more dispersed than the distributions of 

their projected unemployment rates in the two 

earlier yea~ The distribution of projections 

for the longer-run normal unemployment rate 

shifted down modestly. 

The Outlook for Inflation 

The median of projections for headline PCE 

prioe inflation this year was 1.6 percent. 

down OJ percentage point from Mareb. As 

in March, median projected inflation was 

2.0 percent in 2018 and 2019. About half or 

the participants anticipated that inOatioo 

MOS£1AAY POliCY IU'PORr: JUlY 2017 45 

would continue to run a bit below 2 percent 

in 2018. while only one participant expected 

inflation abol'e 2 percent in that year- and. 

in that case. just modestly so. More than 

half projected that inflation would be equal 

to the Committi!\:'sobjective in 2019. A few 

participants projected that inflation "l>uld 

run slightly below 2 percent in that )l:ar. while 

several projected that it 111>uld run a little 

abol'c 2 percent. The median of projections 

for core PCE prioe inflation was 1.7 percent 

in 2017. a decline of0.2 percentage point 

from March: the median projection for 2018 

and 2019 was 2.0 peroent, as in the March 

projections. 

Figures 3.C and 3.D provide information on 

the distributions of participants' views about 

the outlook for inflation. The distributions or 

projections for headline PCE prioe in Oat ion 

and for core I)CE prioe inflation in 2017 

shifted down notioeably from Marth. while the 

distributions for both measun.'S of inflation in 

2018 shifted down slightly. Many participant$ 

cited n.'OCnt surprisingly low readings on 

inflation as a factor contributing to the 

revisions in their inflation fOI\,'C3SIS. 

Appropriate Monetary Policy 

Figure 3.E provides the distribution of 

participants' judgm<'llts regarding the 

appropriate target or midpoint of the target 

range for the federal funds rate at the end 

of each year from 2017 to 2019 and Ol'cr 

the longer run.11 The distribution for 2017 

was less dispersed than that in Man.il, while 

the distribution fur 2018 was slightly less 

12. One partictpant's projections forthe room~ 

funds mte, real GOP growth, the unempiOI'm<nt ~ 

and intlati<>n ••n: informed by 1 he vi<w tb>tlhere are 

multiple JIO'Stble medium-term reymes for the U.S. 

cconOlll)', tbattbese regimes an: perustenl, and that the 

toonomy shifts betwetn rtgi~ in a way tha1 canno-t be 

forecast. Uoderth1sv~ Lbeewootn)'Ctlrrtntly isina 

regi~charactcnzOO by t:<paosion of ccoaomic activity 

•itb low prodo::tiVJt)' growth and a low short-l<rm real 

interesl rate, but klnger-term outcomes for \'3riables 

other thaD tDflation canoot be use(ulty piOj<(lcd. 
108 


71317049.eps

Fi•ur< J.A. Ois!ributioo of pani<ipaou' proJ!Ciioos fonbt ch:!Jl!O in r<al GOP. 2017· 19and over th< longer ruo 

~lllllbcr('(~ 

2017 

=~ -II 

- to 

201$ 

2019 

.... 

IS 

- II 

-ll 

- to 

-

_, · 

_, -· I 

- II 

-16 

- 14 

- n -to 

~--- - 1 -- · . 

-Etiir=-=--=-i' n ~ ___ -. ~ ~ ll~ U- 1.6~ IJ lt ~ :: UIJ u p If u u 2J 

-II 

- 16 

- 14 

-u 

- 10 

.. --------, 

~ 

rETI~ ~ ~ DD~ ~ ~ . -

_· , 

IJ 1.5 tJ 19 u .u ~cm1'11f3ll~ 

- to 

- to -14 

- tl 

-to 

-· -· 

JJ ,.. 

'-' ~ ~ ~ u a JJ U U IJ 11 

P<fCQ!Ir311~ 
109 


71317050.eps

MOS£1AAY POIICH!POIU: JUlY 2017 47 

Figure 3.8. Distribution of porti<ipaots' projc<tioos for tbt unempJoym:nt rate. Jj)Jl -19 and O\tr tbc Joogtr run 

,._,.,c""'""''" 2017 

?. ~~=-- - I$ _,. 

Ull 

2018 

2019 

,._ 

'·' 

" ll

IS-

" 

,._ 

l9 U- U- H - U- U H H U 

P«Mttra• 

n --- -I 

r; ---, 

n----, ~~~ L---, JJ~ U- .t.!w U- U- UJJ 'l H 4.$ • .1 U 

P-.,.o:nt m gc 

!0-

SI 

,._ 

,, 

,._ 

l.l 

_,. -ll 

-10 

-· -· 

-IS 

_,. _,. 

-I! 

- 10 

-· -

_, · 

I 

-II 

_,. 

_,. 

-n 

-10 

-· -· 

-

_II ,. _,. 

- u 

-10 

-- , =: ~ I • • - -~ • ,D 'E-=--]' ..__,,, , .... 

<I ... 

.. .. I t ... 

Jl 
110 


71317051.eps

Figw< 3.C. DiSlribution of parli<lpaoiS' projections for PCE inRation. 2017-19 and 01cr the longer run 

2011 

=~ ... 

2018 

2019 

l.oopnm 

IJ-

.. 

.. "· 

"· •• 

IJ· 

.. 

- II 

-16 

-· _, 

-If 

~--------------- ~ =: 

.:1 I L--- -- ~ .. "· .,. 

!.0 

U· 

" 

-II 

- 16 

--------, -· I I =:! 

r c -----J J: l ~ s 

-------

1 1 

~ I ~ 11- ... !1-

11 lO u PcrccatraJigt 

Numb« of~ 

-II 

-16 

-· .H-----]l, -I) 

- II 

- I 

-6 

,-• r • I _, I I 

"· u. u. .. Ptr«otr.lngt lJ u 

Nombct('(~ 

- II 

rr----T - 16 _,. 

- I) 

_,. 

- I 

- 6 

I ' 11· ., :J. u Perceotran~ 

, . 1! 

Non:: D:fin:tUon$ of \'3rl:tblcs at1d oche-r a:plaoatioos are u' lhe DOCc~ 10 La~ I 
111 


71317052.eps

MOS£1AAY POliCY IU'PORT: JUlY 2017 49 

Figlln: 3.D. Distribution of partici!"ol!' proj«tioos for c<>r< PCE iotlarioo, 2017-19 

" 

=::=:. 

...---.., i-------, 

& 

i-------, 

- II 

_,. 

-I• 

-u 

- 10 

-

_· , 

_, 

-l 

_, 

-I· 

_,. 

-I~ 

..... 

,[ ___ )I I ------ -Y lA 

I.S. 

u 

r • 

.... 

,, 

.... 

" ... 

lJ 

Ptre:tt~tl1nge 

NoTE: D<fmitiloos of ,·amble:$ and ether o:r'1nltl()Qs are m 1he nota to 1abk l 

, .. 

u 

, .. 

1l 

_, 

-" 

- 14 

- u 

- 10 

_ , 

_, 

l I I : 
112 


71317053.eps

50 PAAI J: SUMMARY Of £CO,QI.\JC P~O)ECTIO\S 

Figur< J.E. Distribution of panicip:uus' judgm<nts of lht midpoint of tbe appropriatt targ<l rang. for Ill< 

fodmi funds rat< or tb< appropriate targetl"'d for the f<d<.ral foods r•le, 2017- 19aod O\ef llle longer run 

2017 

ta. Ill· IJ ~ l.Q-. 1.8• UJ- UI- w.. us-

"' lJl 

llJ-

)Jl 

u .. 16.1- lSS· 4,1) .. 

Ul 137 162 U'l 211 lll J.C lJi J:ll U':" 

lOIS 

r-,- t.a- UJ- 1.12 IJ7 

2019 

-- :~ =Ci]:o-.o --=-- ~ IJI- I.Al- IJI· 1U- 2J&- W.. !a- ll}- )JS- lS-- l.Jt- U)-

I.R 1..8' lll UJ !6Z Ul U2 tJl )Q Jll ~12 Ul 

PCfC(jltrotl:~ 

-II 

-16 

-u 

-ll 

-10 

-I 

- 6 _, 

-l 

I 

-II 

-16 

-I• 

-12 

-10 

-·6 

_, 

!2 

- II 

-16 -I• 

-I! 

-10 

-· - 6 

-· r- l rr::"'i t#- I.Uu: IJ1 

rrnOti:= I lr=J - ,l 

loog<r "" 

.... 1..11-

I.U IJ1 

13$- UJ. I~ IJ:I 

Ia- lU- lJI- W- 118- lJl- l.JS- 11} l.}l 2.61 w 111 JJ1 !.62 1&l-- 1.#- tU- lJ1 a ~~ a.n 

l.ll- 1.6? 

Pl.-rcn!lrJllge 

mr10 L.6J. ,.... l.U- u .. 16}.. 113- IJi lJ1 UJ 2.61 !J1' 111 

Pcrtentr3n&c 

rr:=:r - -· JJ}.. Ul· ).6l. l.Sf-

!)1 w 1n au 

Nore D.:fi!Ulii!IIS0(\1riabksand61herc:tpbnal)()flSarc ID lhc llOttstOiabk I 

-II 

-16 

-It 

-I! 

-10 

-· - 6 
113 


71317054.eps

dispersed. The distributions in 2019 and in 

the longer run ll'ere broadly similar to those 

in March. The median projections of the 

federal funds rate continued to show gradual 

incre<1se~ 1111h the rut-dian assessment for 

2017 standing at 1.38 percent. consistent 

with three 25 basis point increases tbis year. 

Thcreaficr.thc medians of the projections 

were 2.13 perct'DL at the end of 2018 and 

2.94 percent at the end of20 19: the median of 

the longer-run projections of tbe toocral funds 

rate was 3.00 percent. 

In discussing their June projection~ many 

participants continued to expi'I.'SS the view 

that the appropriate upward trajectory of 

tbe federal funds rate over the ne.'L fe~~ year> 

would likely be gradual. That anticipated pace 

reflected a few factors. such as a neutral real 

interest rate that was currently low and was 

expected to move up only lo~y as well as a 

gradual return of in Dation to the Commiuee's 

2 percent objective. Several participants judged 

that a slightly more acwmmodative path 

of monetary policy than in their previous 

projections would likely be appropriat.:. citing 

an apparently slower rate of progress toward 

the Commiuee's 2 percent inflation objectiw. 

In their discussions of appropriate monetary 

policy. half of the participants commented 

on the Com mince's reinvestment policy: all 

of those who did so expecied a change in 

reinvestment policy before the end of this year. 

Uncertainty and Risks 

Projections of economic variables are subject 

to considerable uncertainty. In assessing the 

path or monetary policy that. in their view. 

is likcly to be most appropriate. FOMC 

participants take account of the range of 

possible outcom~ the likelihood of those 

outcomes. and the potential benefitS and costs 

to the ceonomy should they occur. Table 2 

provides one measure of forecast uncertainty 

ror the change in real GOP. the unemployment 

rate. and total consumer price inOation- the 

root mean squared error (RMSE) for forecasts 

made over the past 20 years. This measure of 

MOS£1AAY POUCH!POIU: JUlY 2017 51 

Tabk 2. Amage huroncol prtlJ«Iion mor ranges 

"""-"'"'" v.~ :!OU ~~~ 

a....,.,...Go• ! U ~ 

rnttnp...,.ntrMt- !IH !I.! 

Toulo..'ftSUmetJ'O'*S; !Ill t lb 

SbM-I((lQ mtmft rfMI to.l tlO 

1019 

±2.! 

:!IJ 

±LO 

., 

l'ioti:EtJOJ•fCI..,._11t111111M41•,.._« ..... 1001_~ 

~mroi ...... bl~71hl0qlr;lM6 .. _ttkMiah-ll7-

-fNII: .. ,._1i:lnc~Mcft.N~·~bot.~~\. ... 

•rr.•..strarllit.....,ooat.IMit•llbout:.~pr:WMey6.1111:1511 

~blllllfOOP:~-J~M~o'llldlkitddr.kiUI 

... bt ........ brfM-*IC&!Jid~MCII'I--·IkFor-~t«t:IMRe~-Pdtr1UJ1r.tf1'~. 

-~<i·r..-~l'••lliloMIIF,....tM:Nr-1\t 

Ndenllamc'I ~·fiiii!Ot.S~o.c.r.c.Scrio))t7.Ql) 

(\\ ........ a.trJQoo...,ol.,fokti!Roent~-.F«iMM)').M). 

.......... ~~W(.Itlt..,l~pd{ 

1. 06t"'*ot---•lrllka!MII~~t~~~talltk • 

l Meur.no•fi NIII-fll(lrilda.dlf,w~ ..... bml 

alii.S.S-.l•~-~~~"-"--'~11 

pnt:.t~hr*..-otfM,_.....,.tot.t'**~ ... rl·~ 

....... 

l. RvNmllltMrtt: .. ~~·ftcw.l ... rafO.OIIu 

'*"-~•lk•ce J...olltt J,...,l* IIMMce,....,_• 6eMIIJ'fk¥4 aplll(al,a6ot"-r*.-motdN:reu....,_ 

forecast uncertainty is incorporated graphically 

in the Lop pancls of figures 4.A, 4.B. and 

4.C. which display fan charts plouing the 

median SEP projections for the three variables 

surrounded by symmetric confidence intervals 

derived from the RMSEs presented in table 2. 

If the degree of uncertainty auending these 

projections is similar Lo the typit'al magnitude 

of past forecast errors and if the risks around 

Lbe projections are broadly balanced. future 

outcomes of these variables would have 

about a 70 percent probability of O<.'ICurring 

within these confidence intervals. For all three 

variables. this measure of forecast uncertainty 

is substantial and generally incl\.'3~ as the 

forecast horizon lengthens. 

FOMC participants may judge lhal the 

"idth of the historical fan charts shown in 

figures 4.A through 4.C does not adequately 

capture their current assessments of the degree 

of uncertainty that surrounds their economic 

projections. l'articipants' assessments of the 

current level of uncertainly surrounding Lh~i r 

economic projections are shown in the bouomlefi panels of figures 4.A. 4.B. and 4.C. All or 

nearly all participants viewed the uncertainty 

au ached to their economic proj~X.1i ns as 
114 


71317055.eps

52 PAAll: SUMMARY Of £CO\OMIC PRO)ECIIO\S 

broadly simila1t0 the average of the past 

20 yea ~ with three fewer participants than in 

March seeing uncertainty about GDP growth. 

the unemployment rate. and inflation as higher 

than its historical average." In thei1 discussion 

of the uncertainty attached to their current 

projections. most participants again expressed 

the view that. attbis point. uncertainty 

surrounding prospective changes in fiscal and 

othe1 government policies is vel)' large or that 

there is not yet enough infonnation to make 

n.'asonablc assumptions about the timing. 

nature, and magnitude of the changes. 

The fan charts which a reconstructed so as to 

be symmetric around the median projectionsalso may not fully reflect participants' 

current assessments of the balance of risks 

to their economic projections. l'articipants' 

assessments of the balance of risks to their 

economic projections are shown in the bottom· 

right panels of figures 4.A, 4.B. and 4.C. As 

in March. most participants judged the risks 

to their p1ojections of real GDP growth, the 

unemployment rate. headline inflation, and 

core inflation as broadly balano..--d in other 

11\lrds. as broadly consistent with a symmetric 

fan chart. Three participants judged the risks 

to the unemployment rate as weighted to the 

downside. and one participant judged the risks 

as weighted to the upside (as shown in the 

lower-right panel of figure 4.B). In addition, 

the balance of risks to participants' inflation 

projections shifted down slightly from March 

(shown in the lower-right panels of figure 4.C). 

as two fe11~ r participants judged the risks to 

inflation to be 11tighted to the upside and 

two more vic11\'d the risks as weighted to the 

downside. 

tJ At !he end of th• summary, lhe boX"For«:ast 

Uncertainly" d1~us:ses the sources and interpretation 

of uocmainty in the economic forecasts and explains 

tbe approocll used to ass..-ss !he unctr1Junty and risks 

aueodrng lhe panocipanu' projecoioos. 

Participants' assessments of the future 

path of the federal funds rate consistent 

with appropriate policy are also subject to 

considerable uncertainty. rcOccting in part 

uncertainty about the e\\llution of GDP 

growth. the unemployment rate. and inflation 

over time. The final line in table 2 shows the 

RMSEs for foi'-'Casts of short-term interest 

rates. These R MSEs are not strictly consistent 

with the SEP projections for the federal funds 

rate. in part bo."'Cause the SEP projections are 

not forecasts of the likeliest outcomes but 

rather reflect each participant's individual 

assessment of appropriate monetary policy. 

llowe1.:r, the associated confidence intervals 

provide a sense of the likely uncertainty 

around the future path of the federal funds 

rate generated by the uncertainty about the 

macroeconomic variables and additional 

adjustments to monetary policy that may be 

appropriate to offset the effects of shocks to 

the economy. 

Figure 5 shows a fan chart plotting the median 

SEP projections for the appropriate path of the 

federal funds rate surrounded by confidence 

intervals derived from the results presented in 

table 2. As with the macroeconomic variab e~ 

forecast uncertainty is substantial and 

increases at longer horizons.'' 

14. If at some point in lhefutun: theconlidcoo: 

intm-al around tbe federal funds ra!C _.,. to c. !Cod 

below wo. it •ould be truooucd ataro for purposes 

o( tbe cban sb<l\ln in figun: S; zero is !he bouom of 

the tO\I"<Slta~l rang< for tbe federal funds rale that 

has been adopt«! by lbe Conuniuee in the past Thi> 

approocb 10 tbeconstruc:tion or lhe ftderal funds rate 

fan eban would be rmdy a con1•ntion and •'Outd not 

b:~~• an)' impbcalion for possibk future polic)' deeisions 

regarding tbe use of negati\'t interest rates to prmide 

additional monelllry potic:y iiOCommodation rf doing so 

wtre appropriate. 
115 


71317056.eps

MOS£1AAY POliCY IU'PORT: JUlY 2017 53 

Figl!n: 4.A. UD<tn>inty and risk$ in proJ«tioos of GOP growth 

Median pro~ ion and oonfidence interval based on historical forecast errors 

O.aop:111"'IGDP \icdi.t.odp~OJ(di.w 

70%~1Din'lil 

lOll lOU l014 lQIS lill6 lOll 2018 l!Jl9 

FOMC panicipanls' assessmenls of uncenainty and risks around lbeir eoonomic projections 

t.:'ncats1111Y about GOP grow'Qi 

o Ju~~trr~~!.IOJ 

- . .. bfdlpr~-,ecn..'G$ - II 

-1! 

Rnts to GOP gro"b 0 ~pt~.')e!Cb.U 

Matdlpt~t 

Wnghtedto 

dowiiSI<k 

'''"" 

_, 

- l 

-l 

-I 

- o 

- 1$ 

-" -u 

-I~ 

-10 

-' 

-' 

N<m: '111< blumd rol lines m til< top p<n•<l sllow ooU>J l"J!u<o and mol"" Jl'OJ"'<d valu<$, "''"'"'vdy. oflh<Jl""'ll 

thang.e ta real grossdomtStJC rroducc (GOP) fr01t1 tbt f<turt.h quarter of tht pm10US)t:11 to tht fourth qu:tt1er of !he )tar 

mdica:t<d. Thteoofllkotcinten'3.1 around the~n PfOJ«t<d \'allX$is 3$$Umo! to be S)l!lmetric and utw..'ll on rOOL n~ 

SQI,llm,l mon ofV~riOU$ 1'11\'31~ and gO\'<'fnlllCIU forcaus made 0\tt lbe rrt'\101U 20 )"C::tt mort 1AI'ORII1t101 abo..,tbe$:: dlta •s available iD t.able 2. B«ausc CI.ITCI'II cCClditions mt) differ fro11 th<J5t that f!f('\'a.Jied.. on a'ma;t. o-.·-cr t~ prt\ioW 

20 y~ the v.idt.h and shape« tht cooMmo.: intm1IC$U~Uttd on lhe lxtslsof tbe.Jstoocal for«au errors NY DC>I rd:kct 

F()MCrat1.ici;mlts'rurrcataD::S:Smmtsoft.hcll!I«1Uinty.andrisksaroundtbeirproJOCtM~BS;~curtcolassessmml3arc 

wmrunzcd ia lhc lov.lt panels, GtncnD)' spcab~ raruapaots wbo jt.dgt tiM' uoo.'ftalntyabotM: tbar pro,ccuom as broaJI)'SIIIIItlat" to 1be a\er~ k\'ds d the put~ )arnoul.l \W'Il' lbe wiJtb oftbt ~'t!Oe rnu:rv31 sh.O'A-alfltbe 

btS(oncal (3JI chsrt as brJdycoasiSIL'tl.lwtllllhar aSSdSI:'r.K'tltsof the unctrtJrnty abo .. tbcir prOJCCtlOtU. Ukeauc, PJrtiapatnli v;ho Jld~t· lhc risk$10 tbc.r proJ«tioM as ""bfextdty balanoof" wolii 'icw lhe e«~lidmce lllkMI:uOOIIIJ lhcir prQ;:c. 

tionus apprOlimatelysymmttric. F« ddinilio•J of utoetu.inlytnd mb il C\"'MCCIt.:prOJCCbOIU. S« tM' bol"foowt 

l 'a<\.'Jllint) . 
116 


71317057.eps

Figure 4.B. UllC<naint) and risks in proj<Ciiom of the unemployment ra1e 

Median projection and confidenre interval based on hiSiorical forocast errors 

U~JIIO)WCIIIJ1k' 

- M<dialoil"'~ll.'V 

1(1',.~~~~ 

l!ltl lOll lOIS 2016 2017 2018 

FOMC panicipants' 3S!>.'SSI!ltniS ofuooenainty and risks around their economic projt-ctions 

U~Ccr~aroty about the unenJPio3mtat rate 

0 Jwr--~~"-w 

: •• Mardlpc-,1JC'COOOS ·II 

•16 

I I -1~ 

I -10 

I I - s I - 6 

Rtsbtothc~lll(:ntralt 

Juntpr~ 

: ·· ~p~l((!li.'G$ 

- I I 

- I 

-to _, 

-I 

-1 

-6 

-l 

-· 

-l 

-l 

-t 

-J• 

-1! 

-10 

-I 

- 6 

- n-- _ .. t L ---- 1- ~ 

~- "="'J I ] 

- ----~ -r --- ~ 

r,r:=JI - •= 11 

to." Broadly lli;!)l<r 

simibr 

~~:==r:~~:~~t=:::~:~:~:~~~:Ki:::=:=~~~~~= values t.1 assumed to be symnwicand 1.1 t41<\l an roo. meaft ~uar<d c110nd \'aJiO\aS pnvau aDd ,o'l'mllleld f(ltt(:UU madt O\'U llle j.'«'\ious20 )i!<lrs; more illfocm3Ci<:lo ~~~~tho."# data ISI\'1ilabie io tabk 2. lkewXewt(flt rondJtions maydi8'4.T from lll0$t that Pf('\'11W, on a\tra~. owr tbe prenous 20 )"Un, tb~'Aidtlt and sha,c cltbeQOQf'll.ienc< i~tkn'll C$t1111atcd oa the basis of tbc tn:storical (O«CCst errors naay101 rdl«i F"OMC ro.rticipants' C'lmlt a~ts of lhe uncttuioty aDd rists aroood tbcit J)«<,:ttions; Illes.: arrcr~t assc:mJ)C:tltsareswnman.TA1 in tbt Jov.u paDCis. Gtocnlly tp::Wn'- ~iClpnu v;fto Jlld~tbtlU)IX'rt:lin.tyaboul their po,JL'dions 35 ~bro:ldlvsumbt'" l()tbe :mns-: lc\'dS oftbepaS120 yearn.ouiJ \X'!\' tbe 

-.idtll oflbe c«~lldmre mk'r\-al sh'IYKO ill tho: l11stonal fan cbar111$ brJdy«llsiSICQI v.1tb tbclr ~softh<uno:rtamty 

~bout lbeir .JlfO;:tuoes.li\:COAise, partiapa.nts 't.'bO ~ tbe risks tO their roo,JCctionS IS "'bro.1dJ)' babn«:d,. V.Otlij ~X.' \he 

~~!~':'.:! ~~==~.~PPJOumatdy !)'mm&ic. ord~ofinitioasoCU!JCtft.a y aDd nsbm «llOIMlk 
117 


71317058.eps

MOS£1AAY POIICH!POIU: JUlY 2017 55 

Figl!rr 4.C. UD<trtainty and risb in projt<ti<>D> of PCE inJlation 

Median projoction and confidence interval based on historical forecaSI errors 

PCCinlbltOI 

- \S¢da.an cl(ll\-,cm."C.i 

~~~in!tml 

FOMC participants' assessments of uncertainty and risks around their economic projoclions 

UncauiDtyabous PC'Einflation D .loo<P<,,.._ 

: • - \U:cb~1t0i.W 

Broodly 

similar 

-II 

-16 

-I< 

•I! 

-·

- · I 

_____ ,-• - '

lliiJI<t 

Un«naittty aboul o:~re PCE infbuoa 

o ""'- -It ... im('~~ioa.s -16 

-·· -I! 

-10 

- t 

_____ -

' 

t ... " lbP<f 

RisbtoPCEinflaliOD 

0 l~ine~~'GS 

-· ~btdl~'lftl: 

Broadly 

b31anced 

Rists.,ocore PCE iaftaJioo 

0 JuM: ~i<.'O$ 

MJI:UIPf\~ 

_, 

- l 

-I 

- 0 

-It 

_,, 

_,, 
118 


71317059.eps

Figurd. Uo«naintyin proj<ctionsofthe fcdml funds rate 

J<d<nl lundua~ 

- ).b$~"UIO(Cn$«~ 

\to!iJa,~I«'-

1Q",. IaqJ· 

- s 

-· 

-; 

-l 

- I 

-· 2011 lOll 2014 lOIS 201~ 2017 lOIS l019 

Non: fit brut aDd ud ltncu:re OOJ.ed on attual \'llues and. rncdiaa pro_l((t~ ''llue:s. r~i,dy. oft.bc CCCilnuuc<e's1algc1 

Cor the fodcral fu00u'3.1e •• thtmd of'the)~f iDdicated T'hc actual '~are the mldpo~111 o(tbe t~.r.,::t n~ the mcdi.m 

projcacd VJIUC$ arc bra~ oo e~tJo..:r IJie midpoim:t ofcbe Wget ruge or tbc t.ar,:t l.:'!""d. TkooaD.ieocc ia~ uOUDd ~ 

rnedu.a JK .. 'led ''lllkS is bated 011 root mean squared men ohanous prn'::ttc and ,o\·anmatt foftt.asumadc O'o('f lht 

rr~'\·ious 20 yc.trs. 1k oonfdm~ imm'll i:s n<ll strictly<onsisca~t•ith tbe pro;:ttims ((If the fedcnl funds rile, pnnnrilt 

b«auo:tllcool'fOj«<IOIIS:treOOI for«a .. Oftht: bKdJestOI>l- fO<lJl< f,-.l<r>l (und$rat<,I<Jir>lllcr l'fOJC<'IOliSof 

ratUopaau· indJ\idUII tsS¢SSIII(QIS of appropri3tc mooet.tf)' polity Stil. bistOI'ICII for~:~C:~Sl err on f'I'O\'i& a broadJC'flse or tbcUIX\"fUintyarCilmd 1M futurtpltll of the fcdc:rnJ rtmdsrate generated b)• tile unctrl.linty aboutlhcm:taOC'IC'OOOtniC 

luriabi!!S:tS ~A:r.ll u ackli!JoaaJ adjustmmu toawMary poticy lhat may be 3Jl{'l'opnlk to offsrt the e!J«ts or sbocb to lhc 

""'""Y 1\tooo.r..smcc intm1.l rs ~'d to bes)'nanKtnecxo:pc •hco•t•stnacucdat mo-lhe bocttwn of the ~·c:sa t:.t$(l mgt 

for lhc fcd<nll r utlds rate thai lw btett adopted iillbe pas. b) me Coa:uninec. This lt\I:IClllOn W'OoJJ not be intended 10 

lftdtatt the htdihood orlbe ldtof IC'&lll\C iDki'C$1 ntts lO prtn•idcaddttioul mO~ pOlicy j()(l()M!Dcd3JioO if doin1 SO 

•-as jlld~ aprrCf101tt, ht SI.Q Sl1Uitio~ tbcCOIIlmi1t«co1iJ l!JOtnt)"'o) ot.hcr toolJ. mctudift$ rOfK'an.l guKb~Kt 3ld 

largc.nk USd purdlascs. to ptovide addniolal ao:omiDOdattOB &:a\I.SlCcurr<nt(II)Oditioas my dlffa rrom thost th31 

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confideDoemt~JtCtk~tnttrvalhasb:-.'ft~tt~~ca o:latzrro. 
119 


71317060.eps

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120 


71317061.eps

ABBREVIATIONS 

AFE 

BOE 

C&l 

DPl 

ECB 

EME 

FOMC 

GOP 

lFPR 

LUlOR 

MBS 

Michigan survey 

OIS 

ONRRP 

OPEC 

PCE 

SEP 

SLOOS 

S&P 

TIPS 

advanced foreign economy 

Bank of England 

commercial and industrial 

disposable personal income 

European Central Bank 

eme~ging market economy 

federal Open Market Commiuee: also. the Commiuee 

gross domestic product 

labor force panicipation rate 

London interbank offered rate 

mortgage-backed securities 

Unive1$ity of Michigan Surveys of Consumers 

overnight index swap 

overnight revei$C repurchase agreement 

Organization of the Petmleum Exporting Countries 

personal consumption expenditurcs 

Summary of Economic Projections 

Senior Loan Officer Opinion Survey on Dank Lending Practices 

Standard & Poor's 

Tn:asury lnflation·Pmh:cted Securities 

59 
121 


71317062.eps
122 

LETTER FROM KEITH A. NORIEKA, ACTING COMPTROLLER OF THE 

CURRENCY 


71317063.eps

() Office of the Comptroller of the CIXrency 

July 10,2017 

The Honorable Richard Cordray 

Director 

Consumer Financial Protection Bureau 

1275 First St. NE 

Washington DC 20002 

Dear Rich: 

Washington, DC 20219 

I am requesting the Consumer Financial Protection Bureau's (CFPB) share with OCC 

data used to develop and support its proposed final rule banning class-action waivers in 

arbitration agreements and to have our agencies work together to resolve potential safety and 

soundness concerns with the proposal. 

The OCC has a mandate to ensure the safety and soundness of the federal banking 

system. A variety ofOCC staff have reviewed the CFPB's arbitration proposal from this 

perspective and have expressed concerns about its potential impact on the institutions that make 

up the federal banking system and its customers. We feel obligated to communicate our safety 

and soundness concerns regarding this proposal given the requirements of section I 023 of the 

Dodd-Frank Act. 

As you know, arbitration can be an effective alternative dispute resolution mechanism 

!hat can provide better outcomes for consumers and financial service providers without the high 

costs associated with litigation. As some have noted, the CFPB's proposal may effectively end 

the use of arbitration in cases related to consumer financial products and services. Eliminating 

the use of this tool could result in less effective consumer protection and remedies, while simply 

enriching class-action lawyers. At the same time, the proposal may potentially decrease the 

products and services offered to consumers, while increasing their costs. 
123 


71317064.eps

The proposal also may force institutions to confront "potentially ruinous liability" and to 

settle unmeritorious claims to mitigate the significant costs and risks associated with class-action 

law suits.' The increased cost associated with litigation and the loss of arllitration as a viable 

alternative dispute resolution mechanism could adversely affect reserves, capital, liquidity, and 

reputations of banks and thrifts, particularly community and midsize institutions. 

While staff have raised these questions, we can only answer them through shared analysis 

of your agency's data We would like to work with you and your staff to address the potential 

safety and soundness implications of the CFPB's arbitration proposal. That is why I am 

requesting the CFPB share its data, which will be given appropriate confidential treatment. I 

have directed OCC staff to work expeditiously with CFPB staff to examine the data once we 

receive it and determine if our concerns are allayed by the data or to work with CFPB staff to 

resolve any safety and soundness concerns that persist. 

Finally, I want to commend you and your staff for the work the CFPB has done on this 

important issue. At the OCC, we share the mission of ensuring that our supervised institutions 

provide fair access to financial services, treat customers fairly, and comply with applicable laws 

and regulations. 

Sincerely, 

&tL- KeithA.No~ 

Acting Comptroller of the Currency 

1 Shady Gove orthopedic Assocs., P.A. v. Allstate Ins. Co., 130 S. Ct. 1431,1465 n.3 (Ginsburg, 

J., dissenting)( observing that defendants in class actions suits face "pressure ... to settle even 

unmeritorious claims" once a class is certified due to the "potentially ruinous liability" of such 

suits). 

2 
124 

LETTER FROM RICHARD CORDRAY, DIRECTOR, CONSUMER 

FINANCIAL PROTECTION BUREAU 


71317065.eps

-· ·.- 1700 G s ... , N W, W.slwlgion, DC 20552 

July 12, 2017 

The Honorable Keith A. Noreika 

Acting Comptroller of the Currency 

Office of the Comptroller of the Currency 

400 Seventh Street SW 

IV85hington, D.C. 20219 

Dear Keith: 

I am writing in response to your letter of July I 0, 2017, in which you suggest that the arbitration 

rule which the Consumer Financial Protection Bureau issued that day might raise concerns with 

respect to the safety and soundness of the federal banking system. 

I was surprised to receive }'OUT letter. As you may be aware, the issuance of the rule marked the 

conclusion of a multi-year process that included the Bureau's completion in March 2015 of an 

arbitration study that was required by law.' The rulemaking process itself spanned more than two 

years. Throughout thai process, the Bureau consulted repeatedly with representatives of the staff of 

the Office of the Comptroller of the Currency, as well as the other prudential regulators, precisely 

to discuss "prudemial, marke~ or systemic objectives administered by such agencies" in 

accordance with Section I 022 ofthe Dodd-Frank Wall Street Refonn and Consumer Protection 

Act At no time during this process did anyone from the OCC express any suggestion that the rule 

that was under development could threaten the safety and soundness of the banking system. Nor 

did you express any such concerns to me when we have met or spoken. Indeed, the only recent 

communication we had received from the OCC on this subject prior to July I 0 was an e-mail from 

your staff on June 26 •·confinn[ing) that the OCC has no comments on the draft text and 

commentary.'' The points you now raise in your letter were not oonveyed until after the Bureau 

had completed the interagency consultation process, and had already transmitted the final rule to 

the Office of the Federal Register for publication. Thus they do not satisfy the statutory 

requirement that an agency ''has in good faith attempted to work with the Bureau to resolve 

concerns regarding the effect of the rule on the safety and soundness of the United States bankin~ 

system or the stability of the financial system of the United States" and has been unable to do so. 

Additionally, there is no basis for claiming that the arbitration rule puts the federal banking system 

at risk. The Bureau found in the final rule that it will create an effeeti\'e means by which 

oonsumers can seek to vindicate their legal rights under federal and state oonsumer protection laws 

and under their contracts. There is no question, and considerable past and present experience to 

1 CFPB, "A!I>illltion Study: Repon to Coogress. Pur>uaot 10 Dodd·f11ok Wall Sttt<~ Rtfonn and Coaswn<r 

Prolecrioo Act ~ 1028(a~• (20Jl), availabl• at htm: . fii<>.Wil'U""rfi!9DI't!!l\ f::QJ~) \(!'!! ad>!I@!I!)NtU~\· 

~-oo-wncrN·~illJ!!I . 

Sect101ll023(b)(t)(A)oftbe Dodd·Frank ACL 

consumerfinance.gov 
125 


71317066.eps

demonstrate, that U.S. banks are capable of operating safely and soundly in a legal system in which 

consumers can pursue redress for violations of the law. To the extent the rule makes redress 

available to consumers, it also will affect the incentives for providers of financial services to 

confonn their conduct to the law. Indeed, the deterrent effect of the rule is designed to prevent 

exactly the type of unlawful conduct that itself can raise safety and soundness concerns, as it did in 

the lead· up to the financial crisis. 

I have asked Bureau staff to review this issue and they have prepared the attached memorandum 

for me. To highlight a few key points: 

• A majority of depository institutions today operate without arbitration agreements. There is 

no evidence that these banks and credit unions are less safe and sound than their 

counterparts with such agreements, and no regulator {including the OCC) has ever indicated 

that is so. 

• The Bureau's final rule estimates an annual cost for additional federal litigation for all 

covered (bank and non-bank) entities of$523 million per year and a significant but smaller 

amount for additional state court litigation.

3 These costs would be borne by an industry 

with trillions of dollars in assets, and in which last yearthe banks alone earned over Sl71 

billion in profits. In other words, if all of the projected costs were borne by banks (and they 

are not), the rule would reduce net revenue by .3 percent. 

• The mortgage market, the largest consumer financial market (dwarfing the other consumer 

markets in which banks participate), currently operates with a ban on arbitration agreements 

and has effectively done so since 2004. That prohibition has not posed any discernable risk 

to the safety and soundness of the mortgage lending markets that are a key part of the 

United States· economic, financial, and banking systems. and no regulator (including the 

OCC) has given any indication to the contrary. 

• Similarly, since 2009, banks representing approximately 47% of credit eard loans 

outstanding have operated without arbitration agreements; the rulernaking did not adduce 

any evidence that this absence impaired the safety and soundness of these institutions. 

Indeed, when certain major credit card issuers agreed to temporarily eliminate their 

mandatory arbitration pro,~sions, which they did as a provision in a class action settlement, 

the OCC received notice pursuant to the Class Action Fairness Act and did not interpose 

any objection on safety and soundness or other grounds. Nor, so far as we are aware, has 

the OCC downgraded these institutions - or any other institution which eschews arbitration 

agreements- in its CAMELS rating, which is a nonpublic indicator of the safety and 

soundness of the bank, on the basis that these institutions are exposed to class action 

liability. And none of the banks covered by the settlement has elected to reinstate an 

arbitration clause after the settlement expired. 

I believe these data conclusively put to rest any safety and soundness concerns. 

' See Final Rule at671 Table I. 
126 


71317067.eps

In your letter you suggest that the Consumer Bureau staff and OCC slaff conduct a "shared 

analysis" of lhe Bureau's dala. This, too, is a more than belated request as I n01ed earlier, the 

Bureau publicly released iiS arllitration SIUdy on which our rule is predicated over two years ago. 

Furthermore, the Bureau's est.imates as to the rule's impaciS were set forlh in lhe Notice of 

Proposed Rulernaking which lhe Bureau issued over a year ago. Until! received your letter this 

week, the OCC had not expressed any interest in lhe data relating to the rule. 

Wilh that said, I would be happy to have our staff who worked on lhe arllitration study and on our 

cost estimates in the rule lake the time to review the study data and our rulernaking analysis 1vilh 

your staff. I am confident that a briefing will prove sufficient to answer any questions and allay 

any concerns. 

Let me conclude by !banking you for your interest in lhe Bureau's work. We appreciate lhe 

concern you stated !hat institutions supervised by the OCC pro1~de fair access to financial services, 

treat customers fairly, and comply with applicable laws and regulations. Please do not hesitate to 

call me anytime to discuss these mailers further. 

Sincerely, 

Richard Cordray 

Director 
127 

MEMORANDUM TO THE CFPB DIRECTOR FROM THE ARBITRATION 

AGREEMENTS RULEMAKING TEAM 


71317068.eps

1700 G Stroot N W W~on OC 20552 

July 12,2017 

Memorandum for the Director 

FROM Arbitration Agreements Rulemaking Team 

THROUGH Da,1d Silbennan, M5ociate Director, Resea.reh, Markets and Regulations 

SUBJECT Letter from the Acting Comptroller 

This memorandum anal YlCS lhc suggestion in lhe letter from Acting Comptroller Noreika to 

you that !he arbitration agreements rule, which the Consumer Financial Protection Bureau 

sent to the Office of lhe Federal Register on June 30 and publicly announced on Monday, 

implicates the safety and soundness of the federal banking system. 

Procedural. Background 

As you know, section 1022(b)(2)(B) of the Dodd-Frank Act directs the Bureau to '·consult 

with lhe appropriate prudential regulators or other Federal agencies prior to proposing a rule 

and during lhe comment process regarding consistency with prudential, market, or systen1ic 

objectives administered by such agencies." Dodd-frank section 1023, in tum, provides a 

process by which a prudential regulator can petition the Financial Stability Oversight Council 

to overturn a Bureau rule if the petitioner '·has in good faith attempted to work ,vjth the 

Bureau to resolve concerns regarding the effect of the rule on lhe safety and soundness of the 

United States banking system or the stability of the financial system of the United States.'' 

Any such action to ovenum the arbitration rule would be subject to a legal challenge over 

whether this standard has been satisfied, as the statute explicitly authorius.1 

As it does in every rulernaking, the Bureau consulted with the prudential regulators (and 

other potentially interested agencies) lhroughoutlhe rulemaking process. Specifically, 

Bureau staff first consulted wilh OCC staff in September 2015, about the same time that we 

started our small entity review panel process in accordance with the Small Business 

Regulatory Enforcement fairness Act of 1996. Bureau staff again consulted with OCC staff 

in february 2016, prior to our release oflhe Notice of Proposed Rulernaking. Most recently, 

Bureau staff consulted with OCC staff yet again prior to our release of the final rule, which 

did not change drastically from the proposal. On June 6, Bureau staff held an interagency 

consultation on the final rule at which several OCC staff participated, and on June 9 we sent 

'Dodd-Frank S<CiiOil 1023(oX8) or the Dodd-Frank Aot ("JUDICIALREVIEWOF DECISIONS BY THE COUNCIL - A 

decision by the Counoit 10 ltl aside a regulation prescribed by the Buttau, "'provisioo tbmo~ sllall be subje<:~ 

to rtview under thap1er 7 ortille S. United States Code."~ 
128 


71317069.eps

draft regulatory text to the OCC. On both the June6* call and in the June 9* e-mail, BWtau 

staff requested feedback on the rule no later than June 23. 

At no time during this consultation process stretching over almost two )'CatS did the OCC 

express any concern over the potential impact of the rule that was under consideration on the 

safety and soundness of the banking system. In fact, in response to the most recent 

consultation, Bureau staffreeeived un e-mail on June 26111 «confinn[ingJ thm the OCC has no 

comments on the draft text and commentary.''> 

In his lener to you, the Acting Comptroller stated that"Slaffhave raised ... questions" 

pertaining to the impact of the rule on the safety and soundness of the banking system. No 

such concerns have been raised with the Bureau. 

Given this history, and the requirements of scction 1023, invoking those statutory processes 

at this point, as suggested in the letter, would be procedurally improper and would also fail to 

make a plausible case for meeting the required standard. As noted above, the Dodd-Frank 

Act provides for consultation during the rulemaking process to resolve prudential concerns 

and allows for a petition only if the process fails- i.e., if an agency "has in good faith 

ancrnpted to work with the Bureau to resolve concerns regarding the effect of the rule on the 

safety and soundness of the United States banking system or the stability of the financial 

system of the United States- and has been unable to do so.J The belated Slaternents of the 

Acting Comptroller that the OCC has unspecified safety and soundness concerns. conveyed 

in a Idler received after the BWtau had completed the interagency consultation process and 

had already transmined the final rule to the Office of the Federal Register for publication, do 

not satisfy the occ·s statutory obligations.. 

The S1fety and Soundness Concern 

Procedural issues aside, we believe the rulemaking record here - including the Bureau's 

Arbitration Stud~ on which the rule is predicated- demonstrate that this rule docs not put 

the safety and soundness of the United States banking system or the stability of the financial 

system of the United States at risk. 

As you know, the principal effect oft he rule will be to create an effective means by which 

consumers can seek to vindicate their legal rights under federal and state consumer protection 

laws and under their contracts. To the extent the rule makes redress available to consumers, it 

also will affect the incentives of financial service providers to confonn their conduct to the 

• E-mail &om Frtd Pdridc,OCC 10 EricGolclbul, CfPB (JUIIt 26. 2017). 

l Dodd-Frank section 1023{b)(l)(A). 

• Asan a!Jde, wuwld no4t lhat Dodd-Frank 5eCiion 1023{1>)(1) provides for p<titions to be filed "in 

a<eordan« "ith rules pr•sc:ribed pursu~ntto substc:tion (Q." It is our undmtanding that the FSOC bas not 

issued any such rules. Thus. it is unclear whether the FSOC is even in positioo to tntenain a petition at this time. 

& CFPB. •· Ar1litration Study: Repon to Con~V<S•· 1'\muant to Dodd-Fronk Wall Street Refonn and Coosumer 

Procec:tiooAet§I028(a),"(201~),availableal Jl ,r 1 t~ ~ 

• " ("the Study"). 

2 
129 


71317070.eps

law. The financial crisis has taught us all that greater attention by providers to confonnity 

with consumer protection laws would aid safety and soundness. 

Moreover, the Bureau· s Study shows that a majority of depository institutions do not use 

arbitration agreements.6 As the Bureau stated in the preamble to the final rule, this evidence 

shows that depository institutions without arbitration agreements 

are able to remain safe and sound despite their exposure to class action liability. The 

Bureau has no reason to believe that depository institutions with arbitration 

agreements are less financially sound than those without or that requiring certain 

depository institutions to amend their agreements will eause them to become less 

financially sound. 7 

Additionally, the potential costs of the arbitration rule do not raise any concern about such 

risks. Under the Dodd-Frank Act, the Bureau is required to assess the costs and benefits of 

any proposed or final rule on covered persons as well as on consumers.3 The Bureau's final 

rule estimates an annual cost for additional federal litigation for covered entities ofS523 

million per year and a significant but smaller amount for additional state court litigation.9 

These sums will be spread across approximately 600 additional federal class actions and a 

similar number of additional state class actions. The final rule also estimates that depository 

institutions with less than SIO billion in assets will face very few of these cases. In 

particular, the final rule estimates that there will be, on average, less than one federal class 

settlement per year involving these depository institutions and that the magnitude of these 

settlements would be relatively smaller.•• Taken as a whole, the rule is estimated to affect 

approximately 53,000 providers in various covered markets, which extend well beyond the 

banking system to thousands of non-bank entities as well. These are conservative (i.e., upper 

bound) estimates; indeed, during the comment process a number of trade associations 

representing financial institutions argued that the Bureau's data was skewed by a few large 

class settlements (specifically in the overdraft multidistrictlitigation) and that therefore the 

Bureau was overestimating the benefits of class actions for consumers and, derivatively, the 

costs to providers. 

Importantly, these estimates, and the assumptions on which they are based, were set forth in 

detail in the Notice of Proposed Rulemaking, which was issued more than a year ago." At no 

time until now has anyone from the OCC expressed any interest in further discussion about 

any data pertaining to the rule, including these estimates, or contested any of the data on 

which they are based. 

6 See Study, section 2 at 9-17. 

' Final Rule at 648; see aiSIJ id. at 649. 

3 See Dodd·Frank section 1022(bX2). 9 See Final Rule at 671, tbl. I. 

10 See id. at 694-95 

"81 FR 32829(May24.20t6). 

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It seems clear that a rule that would result in the annual costs SCI forth above - under a billion 

dollars per year- and additional investments in compliance with the law to prevent 

additional class litigation exposure, spread over some ponion of the entire unh'trSC of 

consumer financial marlcets, including both banks and non-bank entities, cannot pose a threat 

to the stability of the financial system with its trillions of dollars of assets. ln fact, the annual 

costs for depository institutions would be less than a half-billion dollars per year, whereas the 

profits of those institutions exceeded S 171 billion in 2016.12 

It is instructive in this rega.rd to consider what we know about markets in which arbitration 

agreements do not operate. As the final rule noted, the mortgage market - which is, of 

course, the largest consumer financial market (dwarfing the other consumer markets in which 

banks participate)- currently ~tes with a ban on arbitration agreements and bas 

effectively done so since 2004. l To our knowledge, that prohibition has not posed any 

discernable risk to the safety and soundness of the mortgage lending markets that are a key 

part of the United States' economic, financial, and banking systems. Similarly, banks 

reprcscntingapproximatcly 47% of credit card loans outstanding at the end of20 13 operated 

without arbitration agreements; the Bureau did not receive any evidence that this absence 

impaired the safety and soundness of these institutions, or that their regulators identified any 

risk differential between companies that did or did not use arbitration agreements. Wben 

certain major credit card issuers agreed to eliminate their mandatory arbitration provisions, 

which they did as a provision in a class action settlement. the OCC received notice pursuant 

to the Class Action Fairness Act and did not interpose any objection on safety and soundness 

grounds, or any other grounds. 14 Nor, so far as we are aware, has the OCC downgraded its 

CAMELS rating of these institutions- or any other institution which eschews arbitration 

agreements- on the basis that these institutions are exposed to class action liability. IS 

Further, when the class action settlement expired, none of the card issuers elected to reinstate 

their arbitration agreements, indicating that they did not believe the absence of such 

agreements was posing any substantial threat to their institutions. 

11 FDIC, "Quanerly Banking Profile: Founh Quancr2016" (vol. II, num. I; 2017) available a1 

t' Ill '"U I• I IIUf ~IJ 1-I.Lit!l .• 

I! Set Kenllfl.h Hlllllty, "Fannie Follows Freddie in Banning Mandatory Arbi1J1tion; Wash. P051, Oct. 9. 2004, 

a>libble a1 • ~ s " ~ • Since 2004. Fannie Mae 

and Fruldie Mae uncler.\riting gui<klmes ha•-e prollibi~ arbi11atioa agrecmenU. Subscquendy, lhe CllOglm 

expressly pc hibi~ acirilrllioo asreaneniS 1n lhe a1011pge awtclmott broedly in lhe l)odd.Fraok Act. S« 

l)odd.fcanl: seetion 1414. oodified in Rq~~lallon Z 1112 CFR 1026.36(b). 1

' We ll!ldersland lhat lhe OCC Bulletin 2006-20 (Apr. 21, 2006) requires deposi1ory ins1irutioos 10 pro'ide 

lhese nocict$10 lhe OCC wilhin 10 days of filin& of a propostd senl<m<nL 

" The OCC's handbook explains1ha1: "A bank's composi1e rating undtr Uniform financiallnstiMions Rating 

S)'Siem (UFIRS) or "CAMELS" imegtlll<$ ra1ings from six componenl areas: Capilal adequacy, Asse1 quality, 

Manaaemen~ Earnings, Liquidi1y, and Sensitivi1y to marl<et risk. E•'tlualions of the componenl areas lake into 

consideralion the inslilution s size and sophisti~lion, 1he naturt and complexky of its IICtivities, and iiS risk 

profile," OCC Bank Supervision Proem: Comptroller's Handbook at 14 (Stpltmba' 2007. updated 2012), 

1\'llbble II 

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The Acting Comptroller's Data Request 

In his Ieuer to you. the Acting Comptroller requests access to the Bureau's data. It may be 

helpful to you in responding to have some background on the data on which the Bureau's 

estimates as to the impacts of the rule on financial institutions are based. 

As you will recall, as part of the Bureau's Arbitration Study, the Bureau developed estimates 

as to the prevalence of arbitration agreements in various financial markets. To do so, the 

Bureau assembled a dataset consisting of approximately 850 standard-form contracts used by 

various providers of financial products and services. Most of those contracts are publicly 

available, including credit card agreements which card issuers are required to furnish to the 

Bureau pursuant to the CARD Act, and deposit account agreements which are typically 

found on bank websites. As explained in the Bureau's Study, the Bureau supplemented this 

publicly-available data with contracts obtained from certain providers pursuant to an 

information order under Dodd-Frank section I 022(b )( 4). From these data, the Bureau 

estimated the percentage of various markets covered by arbitration agreements and thus 

potentially affected by the Bureau's rule. 

To estimate the impact the rule would have on this segment of the market, the Bureau relied 

on its findings as to the amount that financial institutions had paid in class action settlements 

(both to consumers and in attorney fees and defense costs) over a five-year period. Those 

findings were derived from the case records of 4 I 9 consumer finance class actions that were 

settled in federal court over a period of five years. The Bureau's study explains the 

methodology the Bureau used to identify these cases- which we believe comprise all or 

virtually all class action settlements in consumer finance cases during the period studied. 

The records from those cases are, of course, public and the Bureau provided full case 

citations to the cases in its Notice of Proposed Rulemaking.•6 

Recognizing that the Bureau's rule also could open the door to putative class actions that are 

settled individually or otherwise not resolved on a class basis, the Bureau estimated those 

impacts by rei ying on a separate data set consisting of 562 consumer finance cases filed as 

putative class actions in federal court and certain state courts over a three-year period. The 

Bureau's study explains the methodology the Bureau used to identify those cases. Those 

case records, too, are of course public. 

>6 81 FR 32829 a1 App'x A (May 24. 2016). 

5