Ben S Bernanke: Semiannual Monetary Policy Report to the Congress
Testimony by Mr Ben S Bernanke, Chairman of the Board of Governors of the Federal
Reserve System, before the Committee on Financial Services, US House of
Representatives, Washington, DC, 17 July 2013.
* * *
Chairman Hensarling, Ranking Member Waters, and other members of the Committee, I am
pleased to present the Federal Reserve's semiannual Monetary Policy Report to the
Congress. I will discuss current economic conditions and the outlook and then turn to
monetary policy. I'll finish with a short summary of our ongoing work on regulatory reform.
The economic outlook
The economic recovery has continued at a moderate pace in recent quarters despite the
strong headwinds created by federal fiscal policy.
Housing has contributed significantly to recent gains in economic activity. Home sales, house
prices, and residential construction have moved up over the past year, supported by low
mortgage rates and improved confidence in both the housing market and the economy.
Rising housing construction and home sales are adding to job growth, and substantial
increases in home prices are bolstering household finances and consumer spending while
reducing the number of homeowners with underwater mortgages. Housing activity and prices
seem likely to continue to recover, notwithstanding the recent increases in mortgage rates,
but it will be important to monitor developments in this sector carefully.
Conditions in the labor market are improving gradually. The unemployment rate stood at
7.6 percent in June, about a half percentage point lower than in the months before the
Federal Open Market Committee (FOMC) initiated its current asset purchase program in
September. Nonfarm payroll employment has increased by an average of about 200,000
jobs per month so far this year. Despite these gains, the jobs situation is far from satisfactory,
as the unemployment rate remains well above its longer-run normal level, and rates of
underemployment and long-term unemployment are still much too high.
Meanwhile, consumer price inflation has been running below the Committee's longer-run
objective of 2 percent. The price index for personal consumption expenditures rose only
1 percent over the year ending in May. This softness reflects in part some factors that are
likely to be transitory. Moreover, measures of longer-term inflation expectations have
generally remained stable, which should help move inflation back up toward 2 percent.
However, the Committee is certainly aware that very low inflation poses risks to economic
performance - for example, by raising the real cost of capital investment - and increases the
risk of outright deflation. Consequently, we will monitor this situation closely as well, and we
will act as needed to ensure that inflation moves back toward our 2 percent objective over
time.
At the June FOMC meeting, my colleagues and I projected that economic growth would pick
up in coming quarters, resulting in gradual progress toward the levels of unemployment and
inflation consistent with the Federal Reserve's statutory mandate to foster maximum
employment and price stability. Specifically, most participants saw real GDP growth
beginning to step up during the second half of this year, eventually reaching a pace between
2.9 and 3.6 percent in 2015. They projected the unemployment rate to decline to between
5.8 and 6.2 percent by the final quarter of 2015. And they saw inflation gradually increasing
toward the Committee's 2 percent objective.1
The pickup in economic growth projected by most Committee participants partly reflects their
view that federal fiscal policy will exert somewhat less drag over time, as the effects of the
tax increases and the spending sequestration diminish. The Committee also believes that
risks to the economy have diminished since the fall, reflecting some easing of financial
stresses in Europe, the gains in housing and labor markets that I mentioned earlier, the
better budgetary positions of state and local governments, and stronger household and
business balance sheets. That said, the risks remain that tight federal fiscal policy will
restrain economic growth over the next few quarters by more than we currently expect, or
that the debate concerning other fiscal policy issues, such as the status of the debt ceiling,
will evolve in a way that could hamper the recovery. More generally, with the recovery still
proceeding at only a moderate pace, the economy remains vulnerable to unanticipated
shocks, including the possibility that global economic growth may be slower than currently
anticipated.
Monetary policy
With unemployment still high and declining only gradually, and with inflation running below
the Committee's longer-run objective, a highly accommodative monetary policy will remain
appropriate for the foreseeable future.
In normal circumstances, the Committee's basic tool for providing monetary accommodation
is its target for the federal funds rate. However, the target range for the federal funds rate has
been close to zero since late 2008 and cannot be reduced meaningfully further. Instead, we
are providing additional policy accommodation through two distinct yet complementary policy
tools. The first tool is expanding the Federal Reserve's portfolio of longer-term Treasury
securities and agency mortgage-backed securities (MBS); we are currently purchasing
$40 billion per month in agency MBS and $45 billion per month in Treasuries. The second
tool is "forward guidance" about the Committee's plans for setting the federal funds rate
target over the medium term.
Within our overall policy framework, we think of these two tools as having somewhat different
roles. We are using asset purchases and the resulting expansion of the Federal Reserve's
balance sheet primarily to increase the near-term momentum of the economy, with the
specific goal of achieving a substantial improvement in the outlook for the labor market in a
context of price stability. We have made some progress toward this goal, and, with inflation
subdued, we intend to continue our purchases until a substantial improvement in the labor
market outlook has been realized. In addition, even after purchases end, the Federal
Reserve will be holding its stock of Treasury and agency securities off the market and
reinvesting the proceeds from maturing securities, which will continue to put downward
pressure on longer-term interest rates, support mortgage markets, and help to make broader
financial conditions more accommodative.
We are relying on near-zero short-term interest rates, together with our forward guidance that
rates will continue to be exceptionally low - our second tool - to help maintain a high degree
of monetary accommodation for an extended period after asset purchases end, even as the
economic recovery strengthens and unemployment declines toward more-normal levels. In
appropriate combination, these two tools can provide the high level of policy accommodation
needed to promote a stronger economic recovery with price stability.
In the interest of transparency, Committee participants agreed in June that it would be helpful
to lay out more details about our thinking regarding the asset purchase program -
specifically, to provide additional information on our assessment of progress to date, as well
as of the likely trajectory of the program if the economy evolves as projected. This agreement
to provide additional information did not reflect a change in policy.
The Committee's decisions regarding the asset purchase program (and the overall stance of
monetary policy) depend on our assessment of the economic outlook and of the cumulative
progress toward our objectives. Of course, economic forecasts must be revised when new
information arrives and are thus necessarily provisional. As I noted, the economic outcomes
that Committee participants saw as most likely in their June projections involved continuing
gains in labor markets, supported by moderate growth that picks up over the next several
quarters as the restraint from fiscal policy diminishes. Committee participants also saw
inflation moving back toward our 2 percent objective over time. If the incoming data were to
be broadly consistent with these projections, we anticipated that it would be appropriate to
begin to moderate the monthly pace of purchases later this year. And if the subsequent data
continued to confirm this pattern of ongoing economic improvement and normalizing inflation,
we expected to continue to reduce the pace of purchases in measured steps through the first
half of next year, ending them around midyear. At that point, if the economy had evolved
along the lines we anticipated, the recovery would have gained further momentum,
unemployment would be in the vicinity of 7 percent, and inflation would be moving toward our
2 percent objective. Such outcomes would be fully consistent with the goals of the asset
purchase program that we established in September.
I emphasize that, because our asset purchases depend on economic and financial
developments, they are by no means on a preset course. On the one hand, if economic
conditions were to improve faster than expected, and inflation appeared to be rising
decisively back toward our objective, the pace of asset purchases could be reduced
somewhat more quickly. On the other hand, if the outlook for employment were to become
relatively less favorable, if inflation did not appear to be moving back toward 2 percent, or if
financial conditions - which have tightened recently - were judged to be insufficiently
accommodative to allow us to attain our mandated objectives, the current pace of purchases
could be maintained for longer. Indeed, if needed, the Committee would be prepared to
employ all of its tools, including an increase the pace of purchases for a time, to promote a
return to maximum employment in a context of price stability.
As I noted, the second tool the Committee is using to support the recovery is forward
guidance regarding the path of the federal funds rate. The Committee has said it intends to
maintain a high degree of monetary accommodation for a considerable time after the asset
purchase program ends and the economic recovery strengthens. In particular, the Committee
anticipates that its current exceptionally low target range for the federal funds rate will be
appropriate at least as long as the unemployment rate remains above 6-1/2 percent and
inflation and inflation expectations remain well behaved in the sense described in the
FOMC's statement.
As I have observed on several occasions, the phrase "at least as long as" is a key
component of the policy rate guidance. These words indicate that the specific numbers for
unemployment and inflation in the guidance are thresholds, not triggers. Reaching one of the
thresholds would not automatically result in an increase in the federal funds rate target;
rather, it would lead the Committee to consider whether the outlook for the labor market,
inflation, and the broader economy justified such an increase. For example, if a substantial
part of the reductions in measured unemployment were judged to reflect cyclical declines in
labor force participation rather than gains in employment, the Committee would be unlikely to
view a decline in unemployment to 6-1/2 percent as a sufficient reason to raise its target for
the federal funds rate. Likewise, the Committee would be unlikely to raise the funds rate if
inflation remained persistently below our longer-run objective. Moreover, so long as the
economy remains short of maximum employment, inflation remains near our longer-run
objective, and inflation expectations remain well anchored, increases in the target for the
federal funds rate, once they begin, are likely to be gradual.
Regulatory reform
I will finish by providing you with a brief update on progress on reforms to reduce the
systemic risk of the largest financial firms. As Governor Tarullo discussed in his testimony
last week before the Senate Banking, Housing, and Urban Affairs Committee, the Federal
Reserve, with the other federal banking agencies, adopted a final rule earlier this month to
implement the Basel III capital reforms.2 The final rule increases the quantity and quality of
required regulatory capital by establishing a new minimum common equity tier 1 capital ratio
and implementing a capital conservation buffer. The rule also contains a supplementary
leverage ratio and a countercyclical capital buffer that apply only to large and internationally
active banking organizations, consistent with their systemic importance. In addition, the
Federal Reserve will propose capital surcharges on firms that pose the greatest systemic risk
and will issue a proposal to implement the Basel III quantitative liquidity requirements as they
are phased in over the next few years. The Federal Reserve is considering further measures
to strengthen the capital positions of large, internationally active banks, including the
proposed rule issued last week that would increase the required leverage ratios for such
firms.3
The Fed also is working to finalize the enhanced prudential standards set out in sections 165
and 166 of the Dodd-Frank Act. Among these standards, rules relating to stress testing and
resolution planning already are in place, and we have been actively engaged in stress tests
and reviewing the "first-wave" resolution plans. In coordination with other agencies, we have
made significant progress on the key substantive issues relating to the Volcker rule and are
hoping to complete it by year-end.
Finally, the Federal Reserve is preparing to regulate and supervise systemically important
nonbank financial firms. Last week, the Financial Stability Oversight Council designated two
nonbank financial firms; it has proposed the designation of a third firm, which has requested
a hearing before the council.4 We are developing a supervisory and regulatory framework
that can be tailored to each firm's business mix, risk profile, and systemic footprint,
consistent with the Collins amendment and other legal requirements under the Dodd-Frank
Act.
Thank you. I would be pleased to take your questions.