John C Williams: Remarks at the 42nd Annual Central Banking Seminar
Central bank: fed | Type: speech | Date: 2018-10-01

## John

C

Williams:

Remarks

at

the

42nd

Annual

Central

Banking SeminarRemarks by Mr John C Williams, President and Chief Executive Officer of the Federal Reserve Bank of New York, at the 42nd Annual Central Banking Seminar, Federal Reserve Bank of New York, New York City, 1 October 2018.*

*

*It is my pleasure to welcome you to the Federal Reserve Bank of New York to participate in the 42nd annual Central Banking Seminar.

This is truly an impressive group-our largest ever-with so many countries, institutions,

and

central

bank

departments

represented.

The

program

and speakers are similarly wide-ranging: You can expect to hear not only about the global economy, monetary policy, financial

stability

and

supervision,

technology,

operations,

and

payments,

but also about issues outside the usual central banking orbit.

We see this breadth of coverage and participation as a key distinction and strength of the Seminar.The long history of the Central Banking Seminar reflects the New York Fed's deep commitment to strengthening central bank cooperation over the long term.

Such cooperation is vital to better understanding the world around us and the execution of our responsibilities.

Those relationships are also essential during times of financial stress, and were critical to managing events during the Global Financial Crisis.A

broad

perspective

is

absolutely

necessary

for

central

bankers

today

given

the

tremendous array of issues we face, the high level of economic and financial integration across the globe, and a range of uncertainties within and outside our traditional remit.

A short list of current issues includes policy normalization in the advanced economies; potential spillovers to emerging market economies (EMEs); fragility in some EMEs; ongoing economic and financial adjustment in China; trade policy tensions; and Brexit.So, there should be no shortage of things to talk about.

Diverse perspectives often lead to better thinking and outcomes, and given the variety of experiences represented today, I expect a very fruitful set of discussions.In my remarks today, I will focus on monetary policy, highlighting the evolution of Federal Reserve policy actions and communications as we've exited from the extraordinary stimulus that followed the crisis and recession.

The good news is that 10 years after the crisis, the U.S. economy is doing

very

well

overall.

From

the

perspective

of

the

Fed's

dual

mandate

of

maximum employment and price stability, quite honestly, this is about as good as it gets.

As a result, the Fed has naturally been moving toward more 'normal' monetary policy.And that brings me to a key theme of my remarks today: What does 'normal' monetary policy look like?

Before I go any further, I should note that what I have to say represents my own views and not necessarily those of the Federal Open Market Committee (FOMC) or anyone else in the Federal Reserve System.

## Strong, Strong, StrongMy take on the economy is well summarized by the most recent FOMC statement, in which we used variations

on

the

word

'strong'

five

times

in

only

four

short

paragraphs.

The

statement references 'strong' labor market conditions, 'strong' job gains, and a 'strong' rate of growth in economic

activity,

household

spending

and

business

fixed

investment.

Although

this

may suggest that we really need to consult a thesaurus, at least we can't be accused of ambiguity. 1The Fed has attained its dual mandate objectives of maximum employment and price stabilityabout as well as it ever has, with most indicators pointing to a very strong labor market indeedincluding an unemployment rate below 4 percent-and an inflation rate very near our longer-run goal of 2 percent.With fiscal

stimulus

and

favorable

financial

conditions

providing

tailwinds

to

the

economy,

the outlook is for more of the same.

Let me put some hard numbers to that: I expect real GDP to increase by 3 percent this year and by 2.5 percent in 2019.

This above-trend pace of growth should

lead

to

continued

solid

job

gains

and

further

declines

in

unemployment.

I

expect

the unemployment rate to fall slightly below 3.5 percent next year, the lowest level in nearly 50 years.In keeping with the strong economy, I expect price inflation to edge up a bit above 2 percent, but don't see any signs of greater inflationary pressures on the horizon.

And, I continue to expect that further gradual increases in interest rates will best foster a sustained economic expansion and achievement of our dual mandate goals.I

should hasten to add that not everyone has shared equally in this otherwise strong economy.

The unevenness of the recovery is evident in my travels around the Second District, where, for example, the economic recovery in upstate New York continues to lag the nation as a whole.

So, while the national economy is in good shape, longer-run economic challenges have meant that not all Americans have benefited from the improvement in the economy.

Beyond supporting a strong

overall

economy,

monetary

policy

has

limited

reach

into

these

issues,

which

are

best addressed through other means, such as investments in education, workforce development, and economic development.

## Three Stages of Monetary Policy NormalizationIn thinking about the outlook for monetary policy, it's useful to remember how we got to where we are today.

The financial crisis and the Great Recession led the FOMC to lower the federal funds rate target to near zero and to keep it there for seven years.

This lengthy spell at zero reflected the long shadow of the crisis-evident in the subsequent subdued growth rate and inflation rate -and the need for the economy to convalesce after enormous trauma.

With the unemployment rate still

very

high

and

inflation

low,

the

Federal

Reserve

embarked on a long journey through terra incognita of unconventional monetary policy actions, including large-scale asset purchases and

forward

guidance

on

the

future

path

of

interest

rates.

We

weren't

alone:

Indeed,

some central banks across the globe went even further down the road of unconventional policies.In

part

due

to

the

Fed's

actions,

the

U.S.

economy

gradually

recovered,

and

as

a

result

the FOMC has been slowly but surely moving monetary policy 'back to normal.' This process can be thought of in three stages.

## Stage 1: Lift-offThe first stage in policy normalization focused on the lift-off of the federal funds rate target from near zero, which occurred in December 2015.

But, well before that happened, the FOMC went to great effort to communicate its thinking to the public to better prepare it for the upcoming change in policy.

Importantly, we also made extensive preparations to ensure that we were ready and able to

raise

rates

as

needed,

in

the

context

of

a

very

large

Fed

balance

sheet

and

bank reserves.

And, consistent with the Fed's aim to be as transparent as possible, we published our plans

on

how

we

would

use

interest

rates

paid

on

bank

reserves

and

overnight

reverse repurchase agreements to keep the federal funds rate within the FOMC's target range. 2 3At the time-in light of the shallow recovery and low inflation-the FOMC was very focused on balancing the risk of a premature removal of accommodation against concerns that excesses could eventually develop in the economy.

In the end, lift-off went without a hitch.

The approach developed back then has served us extremely well in controlling the federal funds rate, and has proven to be flexible as market conditions have evolved.

I will come back to this point later.BIS central bankers' speeches

## Stage 2: NormalizationThe second stage of normalization followed lift-off and has involved two processes: 1) raising the federal

funds

target

closer

to

more

normal

levels,

reflecting

the

ongoing

improvement

in

the economy, and 2) gradually reducing the Fed's balance sheet as we work to unwind the asset purchase policies put in place during the crisis.Let's

start

with

interest

rate

normalization.

Since

lift-off,

we've

raised

interest

rates

as

the economy moved toward maximum employment and our 2 percent longer-run inflation objective.

We continued this process with our most recent rate increase this week.

Throughout,

we've repeatedly stressed that we foresaw this to be a process of gradual normalization, reflecting the balancing of risks to reaching our goals.

In particular, downside risks to the achievement of our employment and inflation goals amid very low interest rates were compelling arguments for a cautious

and

relatively

predictable

approach

to

policy.

This

approach

proved

its

worth:

The economy continued to expand at a healthy pace even as the Fed raised rates numerous times. 4I'll now turn briefly to the normalization of the balance sheet.

We began this process about a year ago.

In the now-standard Fed practice of communicate, communicate, and communicate, we published detailed plans well in advance on how we would gradually and predictably reduce the balance sheet.

As with lift-off, this process has proceeded smoothly without market disruption or volatility-and that's the way we like it. 5 6

## Stage 3: 'Normal'This brings me to the third stage, that of 'normal' monetary policy.

As interest rates have moved well away from zero and the balance sheet has started shrinking, a natural question arises: What does normal monetary policy look like?

As before, I'll start with interest rate policy and finish with the balance sheet.For those who follow the Fed closely, you've noticed that the FOMC has been slimming down its statements of late and using less forward guidance about the future path of policy.

In this vein, the

FOMC

this

week

removed

language

from

its

statement

indicating

that

monetary

policy remains accommodative.

Let me make clear, these more concise statements do not signify a shift

in

our

monetary

policy

approach.

Instead,

they

represent

the

natural

evolution

of

the language describing the factors influencing our policy decisions in the context of the strength of the economic outlook and inflation being near our 2 percent longer-run goal.

These changes in how we communicate our policy views are a sign that we are nearing the end of the second stage of the normalization process, and are inching closer to conducting normal monetary policy. 7Arguably, it's been a long time since monetary policy was 'normal,' so it's worth describing what normal looks like in some detail.

At its most basic level, policy-making will remain the same: The path of interest rates will continue to be guided strategically by our dual mandate objectives and shaped tactically by the data and their implications for the economic outlook.

We'll continue to be transparent about our thinking about the economy and monetary policy.But, changing circumstances call for some changes in how the FOMC communicates its policy views.

Now that interest rates are well away from zero and the economy is humming along, the case for strong forward guidance about future policy actions is becoming less compelling.

For one, the future direction of policy will no longer be as clear as it was during the past few years.

When interest rates were extremely low, it was obvious that the direction for rates was upward, toward more normal levels, and our forward guidance reinforced that point.

At some point in the future, it will no longer be clear whether interest rates need to go up or down, and explicit forward guidance about the future path of policy will no longer be appropriate.In addition, as we have moved far away from near-zero interest rates, it makes sense to shiftaway from a focus on normalizing the stance of monetary policy relative to some benchmark 'neutral' interest rate, often referred to as 'r-star.' Now, I have spent a good deal of my career studying

r-star

and

I

find

it

to

be

a

useful

concept

for

describing

the

economy's

longer-run behavior.Having said that, at times r-star has actually gotten too much attention in commentary about Fed policy.

Back when interest rates were well below neutral, r-star appropriately acted as a pole star for navigation.

But, as we have gotten closer to the range of estimates of neutral, what appeared to be a bright point of light is really a fuzzy blur, reflecting the inherent uncertainty in measuring rstar.

More than that, r-star is just one factor affecting our decisions, alongside economic and labor market indicators, wage and price inflation, global developments, financial conditions, the risks to the outlook… I think you get the point. 8Returning to the balance sheet, the question of what exactly the new normal looks like is still being analyzed and discussed at the Fed.

We have indicated that we plan to shrink the balance sheet to the smallest size consistent with the efficient and effective conduct of monetary policy, and that, in the long run, the asset side of the balance sheet will consist primarily of Treasury securities.

That's

our

strategy,

but

its

execution

will

depend

on

the

operating

framework

of monetary policy, among other factors. 9Here, the Fed basically has two choices.

We could return to a system similar in spirit to that used before the financial crisis, in which the supply of reserves in the banking system was kept relatively scarce, and the interest rate was set by adjusting reserves on a frequent basis through open market operations.

Alternatively, we could continue with the system that we've been using since

the

crisis,

in

which

bank

reserves

are

abundant

and

the

federal

funds

rate

target

is achieved through adjustments to administered rates.

As I said, this approach is working very well at controlling interest rates and has proven to be easy to communicate and adaptable.

The Fed will

be

looking

closely

at

these

options

in

the

coming

months

and

will

subsequently

make

a decision on the future operating framework.

And, as is our standard practice, we will be sure to communicate our thinking and decisions on this issue as soon and as thoroughly as practicable. 10

## ConclusionMonetary

policy-making

has

perhaps

never

been

more

challenging

than

it

was

following

the financial crisis.

But, as we move toward more 'normal' conduct of monetary policy, we shouldn't rest

easy

and

think

we

won't

confront

our

own

fair

share

of

future

challenges.

The

most important one in front of us today is sustaining the long economic expansion without allowing risks to grow that ultimately undermine economic prosperity.

Whatever the future may bring, I will be guided by our dual mandate, a heavy dependence on data, and a steadfast commitment to transparency.Thank you.1 See FOMC Statement and Implementation Note, September 26, 2018. 12 See Minutes of the Federal Open M arket Committee, M arch 17-18, 2015. 23 See FOMC Communications related to Policy Normalization, and Simon Potter, M oney M arkets and M onetary Policy Normalization, A pril 15, 2015. 34 See FOMC Statement and Implementation Note, September 26, 2018. 45 See FOMC issues addendum to the Policy Normalization Principles and Plans, June 14, 2017. 56 See Simon Potter, Confidence in the Implementation of U.S. M onetary Policy Normalization, A ugust 4, 2018. 67 See FOMC Statement and Implementation Note, September 26, 2018. 78BIS central bankers' speeches- 8 See Jerome H.

Powell, M onetary Policy in a Changing Economy, August 24, 2018. 8- 9 See Policy Normalization Principles and Plans, as adopted effective September 16, 2014. 9- 10 See Simon Potter, Confidence in the Implementation of U.S. M onetary Policy Normalization, A ugust 4, 2018. 10