For release on delivery
1:00 p.m. EDT
September 1, 2020
Bringing the Statement on Longer-Run Goals and Monetary Policy Strategy
into Alignment with Longer-Run Changes in the Economy
Remarks by
Lael Brainard
Member
Board of Governors of the Federal Reserve System
at
"How the Fed Will Respond to the COVID-19 Recession
in an Era of Low Rates and Low Inflation," an event hosted by
the Hutchins Center on Fiscal and Monetary Policy at the Brookings Institution
Washington, D.C.
(via webcast)
September 1, 2020
I want to thank David Wessel for hosting this event. It is an honor to be here with
Ben Bernanke and Janet Yellen, who pioneered the original Statement on Longer-Run
Goals and Monetary Policy Strategy in 2012. It is a pleasure to discuss the new
statement, unanimously approved by the Federal Open Market Committee (FOMC) last
week.1 By bringing our longer-run goals and strategy into alignment with key longer-run
changes in the economy, the new statement will strengthen our support for the recovery.
In my view, the new statement breaks important ground and will serve the country well
as we respond to the economic repercussions of the COVID-19 crisis.
Key Longer-Run Changes in the Economy
Three related features of the economy's new normal called for the reassessment of
the Committee's longer-run goals and strategy.2 First, the equilibrium interest rate has
fallen to low levels, which implies a large decline in how much we can cut interest rates
3
to support the economy. That was abundantly clear in March, when we were able to cut
1
I am grateful to Ivan Vidangos and John Roberts of the Federal Reserve Board for helpful discussions.
These remarks represent my own views, which do not necessarily represent those of the Federal Reserve
Board or the FOMC.
See the Board's website for the new statement at
https://www.federalreserve.gov/monetarypolicy/files/FOMC_LongerRunGoals.pdf. Information about the
review of monetary policy strategy, tools, and communications is available at
https://www.federalreserve.gov/monetarypolicy/review-of-monetary-policy-strategy-tools-andcommunications.htm.
See Jerome H. Powell (2019), "Monetary Policy: Normalization and the Road Ahead," speech delivered at
the 2019 SIEPR Economic Summit, Stanford Institute of Economic Policy Research, Stanford, California,
March 8, https://www.federalreserve.gov/newsevents/speech/powell20190308a.htm; Richard H. Clarida
(2019), "The Federal Reserve's Review of Its Monetary Policy Strategy, Tools, and Communication
Practices," speech delivered at the 2019 U.S. Monetary Policy Forum, sponsored by the Initiative on Global
Markets at the University of Chicago Booth School of Business, New York, February 22,
https://www.federalreserve.gov/newsevents/speech/clarida20190222a.htm.
2
Lael Brainard (2016), "The "New Normal" and What It Means for Monetary Policy," speech delivered at
the Chicago Council on Global Affairs, Chicago, Illinois, September 12,
https://www.federalreserve.gov/newsevents/speech/brainard20160912a.htm.
3
See, for instance, Lael Brainard (2015), "Normalizing Monetary Policy When the Neutral Interest Rate Is
Low," speech delivered at the Stanford Institute for Economic Policy Research, Stanford, California,
December 1, https://www.federalreserve.gov/newsevents/speech/brainard20151201a.htm; and Kathryn
Holston, Thomas Laubach, and John C. Williams (2016), "Measuring the Natural Rate of Interest:
- 2 -
the policy rate by only 11⁄2 percentage points before hitting the effective lower bound-in
contrast to previous decades when the policy rate would have been cut by 41⁄2 to
5 percentage points, on average, to buffer the economy from an adverse shock. The
reduced scope to cut the interest rate could increase the frequency and duration of periods
when the policy rate is pinned close to zero, unemployment is elevated, and inflation is
below target. In turn, the greater likelihood of extended periods of low inflation at the
lower bound risks eroding inflation expectations and further compressing the scope for
cutting the interest rate. The risk here is a downward spiral where the scope for cutting
the interest rate gets compressed even further, the lower bound binds even more
frequently, and it becomes increasingly difficult to move inflation expectations and
inflation back up to target. The experience of some foreign central banks illustrates the
challenges associated with such a downward spiral.
Second, underlying trend inflation appears to be somewhat below the
Committee's 2 percent objective, according to various statistical filters.4 The near decade
of inflation persistently short of 2 percent creates the risk that households and businesses
come to expect inflation to run persistently below target and change their behavior in a
way that fulfills that expectation, which greatly complicates the task of monetary policy.
While inflation expectations are difficult to measure with precision, some market-based
and survey-based indicators show signs of a downward drift. Ensuring that longer-term
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inflation expectations are well-anchored at 2 percent is critical to achieving target
inflation.
Finally, the sensitivity of price inflation to labor market tightness is very low
relative to earlier decades, which is what economists mean when they say that the Phillips
curve is flat.5 A flat Phillips curve has the important advantage of allowing employment
to continue expanding for longer without generating inflationary pressures, thereby
providing job opportunities to people that might not otherwise have them. It also means
that it is harder to achieve our 2 percent inflation objective on a sustained basis when
inflation expectations have drifted below 2 percent.
Key Changes in the Statement on Longer-Run Goals and Strategy
The new statement on goals and strategy responds to these features of the new
normal in a compelling and pragmatic way by making four important changes. First, the
statement defines the statutory maximum level of employment as a broad-based and
inclusive goal and eliminates the reference to a numerical estimate of the longer-run
normal unemployment rate.6 The longstanding presumption that accommodation should
be reduced preemptively when the unemployment rate nears the neutral rate in
anticipation of high inflation that is unlikely to materialize risks an unwarranted loss of
opportunity for many Americans. The decision to allow the labor market to continue
healing after the unemployment rate effectively reached the 5 percent median Summary
- 4 -
of Economic Projections (SEP) estimate of the normal unemployment rate in the fourth
quarter of 2015 supported a further decrease of 31⁄2 percentage points in the Black
unemployment rate and of 21⁄4 percentage points in the Hispanic unemployment rate, as
well as an increase of nearly 3 percentage points in the labor force participation rate of
prime-age women. It also created conditions for the entry of a further 31⁄2 million prime-
age Americans into the labor force, a movement of nearly 1 million people out of long-
term unemployment, and opportunities for 2 million involuntary part-time workers to
secure full-time jobs.7 Beyond that, had the changes to monetary policy goals and
strategy we made in the new statement been in place several years ago, it is likely that
accommodation would have been withdrawn later, and the gains would have been
greater.
Instead of an aggregate "normal" unemployment rate, the Committee's
commitment to defining the maximum level of employment as a broad-based and
inclusive goal, together with our continued commitment to consider a wide range of
indicators, may be particularly significant for the groups that are most vulnerable to
employment fluctuations.8 Both research and experience suggest the groups that face the
greatest structural challenges in the labor market are likely to be the first to experience
layoffs during downturns and the last to experience employment gains during recoveries.
Research by the Federal Reserve Board staff finds that unemployment rates, as well as
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patterns of job loss and labor force entry and exit, are more cyclically sensitive for Blacks
and Hispanics than for whites, and observable worker characteristics can explain very
little of these differentials.9 A similar observation was one of the key takeaways from the
Fed Listens sessions we held around the country.10 Juan Salgado, chancellor of the City
Colleges of Chicago, described how last year's tight labor market was finally giving his
students, who are largely Black and Latinx, the opportunity to apprentice with local
businesses in jobs that historically have not been open to them.11 Moreover, earnings
from wages are particularly important for these groups, who have large and persistent
wealth gaps and derive a smaller share of their income from financial asset holdings or
from business ownership.12
Second, to address the downward bias to inflation associated with the proximity
to the effective lower bound, the statement adopts a flexible inflation averaging strategy
that seeks to achieve inflation that averages 2 percent over time in order to ensure longer-
term inflation expectations are well anchored at 2 percent. Flexible average inflation
9
See Tomaz Cajner, Tyler Radler, David Ratner, and Ivan Vidangos (2017), "Racial Gaps in Labor Market
Outcomes in the Last Four Decades and over the Business Cycle," Finance and Economics Discussion
Series 2017-071 (Washington: Board of Governors of the Federal Reserve System, June),
https://doi.org/10.17016/FEDS.2017.071. See also Stephanie R. Aaronson, Mary C. Daly, William L.
Wascher, and David W. Wilcox (2019), "Okun Revisited: Who Benefits Most from a Strong Economy?"
Brookings Papers on Economic Activity, Spring, pp. 333-75,
https://www.brookings.edu/wpcontent/uploads/2019/03/aaronson_web.pdf.
10
A report summarizing the 15 Fed Listens events held by the Federal Reserve System is available on the
Board's website; see Board of Governors of the Federal Reserve System (2020), Fed Listens: Perspectives
from the Public (Washington: Board of Governors, June),
https://www.federalreserve.gov/publications/files/fedlistens-report-20200612.pdf.
11
See Juan Salgado (2019), remarks for panel 1, "What Does Full Employment Look Like for Your
Community or Constituency?" at the Fed Listens Conference on Monetary Policy Strategy, Tools, and
Communication Practices, held at the Federal Reserve Bank of Chicago, June 4, available on YouTube at
https://www.youtube.com/watch?v=mF-GnAGOOa0.
12
See Lael Brainard (2019), "Is the Middle Class within Reach for Middle-Income Families?" speech
delivered at "Renewing the Promise of the Middle Class," 2019 Federal Reserve System Community
Development Research Conference, Washington, May 10,
https://www.federalreserve.gov/newsevents/speech/brainard20190510a.htm.
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targeting (FAIT) is a consequential change in strategy. By committing to seek inflation
that averages 2 percent over time, FAIT means that appropriate monetary policy would
likely aim to achieve inflation moderately above 2 percent for a time to compensate for a
13
period, such as the present, when it has been persistently below 2 percent. Consistent
with this, I would expect the Committee to accommodate rather than offset inflationary
pressures moderately above 2 percent, in a process of opportunistic reflation.
Flexible average inflation targeting is a pragmatic way to implement a makeup
strategy, which is essential to arrest any downward drift in inflation expectations.14
While a formal average inflation target (AIT) rule is appealing in theory, there are likely
to be communications and implementation challenges in practice related to time-
consistency and the mechanical nature of such rules. Analysis suggests it could take
many years with a formal AIT rule to return the price level to target following a lower-
bound episode, and a mechanical AIT rule is likely to become increasingly difficult to
explain and implement as conditions change over time.15 In contrast, FAIT is better
suited for the highly uncertain and dynamic context in which policymaking takes place.
In my mind, the commitment to undertake a review of the new strategy and goals
in roughly five years is a necessary complement to the flexibility embedded in the new
inflation averaging strategy. Since the Committee is adopting a new approach, it is
13
See Lael Brainard (2019), "Federal Reserve Review of Monetary Policy Strategy, Tools, and
Communications: Some Preliminary Views," speech delivered at the presentation of the 2019 William F.
Butler Award, New York Association for Business Economics, New York, November 26,
https://www.federalreserve.gov/newsevents/speech/brainard20191126a.htm.
14
See Ben S. Bernanke, Michael T. Kiley, and John M. Roberts (2019), "Monetary Policy Strategies for a
Low-Rate Environment" Finance and Economics Discussion Series 2019-009 (Washington: Board of
Governors of the Federal Reserve System, February), https://doi.org/10.17016/FEDS.2019.009.
15
See the discussion on the review of monetary policy strategy, tools, and communication practices in the
minutes of the FOMC's September 2019 meeting, available on the Board's website at
https://www.federalreserve.gov/monetarypolicy/fomccalendars.htm.
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prudent and pragmatic to review it after gaining some practical experience with it over
five years. As such, the five-year review will provide a vital checkpoint to see how well
flexible average inflation targeting is working and, in my thinking, provide some insights
into an appropriate makeup period. Depending on conditions at the time of the review,
the Committee will have the opportunity to tweak FAIT or to make a more fundamental
change, if deemed necessary.
Third, the statement highlights an important change in the Committee's reaction
function. Whereas previously it sought to mitigate deviations of employment and
inflation from their targets in either direction, the Committee will now seek "to mitigate
shortfalls of employment from the Committee's assessment of its maximum level and
deviations of inflation from its longer-run goal." This change implies that the Committee
effectively will set monetary policy to minimize the welfare costs of shortfalls of
employment from its maximum and not preemptively withdraw support based on a
historically steeper Phillips curve that is not currently in evidence and inflation that is
correspondingly much less likely to materialize.16 Consistent with this, the statement
drops language about a "balanced approach" that might be interpreted as calling for the
preemptive withdrawal of accommodation and replaces it with a more accurate
description of how we pursue our dual-mandate goals in parallel.
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Fourth and finally, the statement codifies the key lesson from the Global Financial
Crisis-that financial stability is necessary for the achievement of our statutory goals of
maximum employment and price stability. The same changes in the macroeconomic
environment that prompted our monetary policy review have important implications for
financial stability. Historically, when the Phillips curve was steeper, inflation tended to
rise as the economy heated up. The rise in inflation would prompt the Federal Reserve to
raise interest rates to restrictive levels, which would have the effect of tightening
financial conditions more broadly. In contrast, the past few cycles did not see this kind of
behavior, and in each case, financial imbalances, rather than goods and services inflation,
were notably elevated at the onset of the downturn.
With a flat Phillips curve and low inflation, the Committee would have to sustain
the federal funds rate below the neutral rate for much longer in order to push inflation
back to target sustainably. The resulting expectation of lower-for-longer interest rates,
along with sustained high rates of resource utilization, is conducive to increasing risk
appetite, reach-for-yield behavior, and incentives for leverage-which can boost financial
imbalances as an expansion extends. In this way, the combination of a low neutral rate, a
flat Phillips curve, and low underlying inflation can lead to more cyclical volatility in
asset prices. With financial stability risks more tightly linked to the business cycle, it is
vital to use macroprudential as well as standard prudential tools as the first line of
defense in order to allow monetary policy to remain focused on achieving maximum
employment and 2 percent average inflation.17
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Supporting the Recovery
The Committee's new statement on goals and strategy will put us in a stronger
position to support a full and timely recovery in employment and average inflation of
2 percent. Overall financial conditions are supportive. Encouragingly, the housing sector
has rebounded strongly from its initial decline, supported by historically low mortgage
rates, and consumer spending on goods has held up well, in part reflecting earlier fiscal
support.18 At the same time, however, the strong pace of improvement in employment in
May and June, which was importantly driven by recall hiring out of temporary layoffs,
appears to have slowed.19 And on the inflation front, despite some bounceback in July,
inflation remains weaker than pre-crisis, and it is likely to take some time to return closer
to target.20
Looking ahead, the economy continues to face considerable uncertainty
associated with the vagaries of the COVID-19 pandemic, and risks are tilted to the
downside. The longer COVID-19-related uncertainty persists, the greater the risk of
shuttered businesses and permanent layoffs in some sectors. While the virus remains the
most important factor, the magnitude and timing of further fiscal support is a key factor
for the outlook. As was true in the first phase of the crisis, fiscal support will remain
essential to sustaining many families and businesses.
18
In the housing sector, single-family construction permits and sales of both new and existing homes
increased in June and July, and have returned to pre-pandemic levels. In the consumption sector, goods
spending posted robust gains in both June and July, and is now well above pre-crisis levels. The data on
business investment-including shipments of nondefense capital goods for June and July-have also
surprised to the upside.
19
After falling by 22.2 million over March and April, nonfarm payroll employment increased by
7.5 million over May and June and by 1.8 million in July. Furthermore, various high-frequency indicators
tracked by Federal Reserve Board staff-including initial claims for unemployment insurance and
employment in small businesses-suggest that the pace of improvement in the labor market has slowed.
20
This refers to inflation as measured by the price index of personal consumption expenditures excluding
food and energy.
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With the recovery likely to face COVID-19-related headwinds for some time, in
coming months, it will be important for monetary policy to pivot from stabilization to
accommodation. As we move to the next phase of monetary policy, we will be guided by
the Committee's new goals and strategy statement. It will be important to provide the
requisite accommodation to achieve maximum employment and average inflation of 2
percent over time, following persistent underperformance. While the Committee did not
anticipate the unprecedented challenge of the COVID-19 pandemic when the review was
launched, the new statement puts us in a stronger position to support a full and timely
recovery.21
21
I would like to express appreciation for the leadership of the review by Chair Powell and Vice Chair
Clarida, the important contribution of President Williams, and the excellent and indispensable contribution
of Ellen Meade of the Federal Reserve Board. Our deliberations were greatly enriched by engagement with
community members through Fed Listens events in every District of the country. Committee deliberations
were informed by 13 excellent staff memos-expertly overseen by Thomas Laubach of the Federal Reserve
Board, with the support of Jeff Fuhrer of the Federal Reserve Bank of Boston, Marc Giannoni of the
Federal Reserve Bank of Dallas, and David Altig of the Federal Reserve Bank of Atlanta-as well as
7 outstanding papers and responses by leading outside experts. For more information on the staff memos,
including a reference list with links to each one, see David Altig, Jeff Fuhrer, Marc P. Giannoni, and
Thomas Laubach (2020), "The Federal Reserve's Review of Its Monetary Policy Framework: A
Roadmap," FEDS Notes (Washington: Board of Governors of the Federal Reserve System, August 27),
https://www.federalreserve.gov/econres/notes/feds-notes/the-federal-reserves-review-of-its-monetarypolicy-framework-a-roadmap-20200827.htm. The papers by outside experts are available on the Federal
Reserve Bank of Chicago's website at
https://www.chicagofed.org/events/2019/fed-listens-conference-onmonetary-policy.