Stanley Fischer: International effects of recent policy tightening
Speech by Mr Stanley Fischer, Vice Chair of the Board of Governors of the Federal Reserve
System, at the IBRN-IMF conference "The Transmission of Macroprudential and Monetary
Policies Across Borders", Washington DC, 19 April 2017.
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I appreciate your invitation to participate in this afternoon's panel discussion. In my remarks, I will
discuss how U.S. monetary policy actions affect our foreign trading partners, with particular
focus on how foreign economies have responded to the Federal Open Market Committee's
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(FOMC) ongoing normalization of policy rates.
Spillovers from the Fed's Unconventional Policies
Extensive empirical research on spillovers-including by Federal Reserve and International
Monetary Fund (IMF) staff members-indicates that spillovers from the actions of major central
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banks occur through several important channels. While the exchange rate is a key channel of
transmission and gets a great deal of attention in the public debate about monetary spillovers, it
is not the only channel. U.S. monetary policy also affects foreign economies by influencing U.S.
domestic demand and by affecting global financial conditions.
My reading of the evidence is that the Fed's highly accommodative monetary policy during the
Global Financial Crisis and its aftermath probably raised foreign gross domestic product (GDP)
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overall. While U.S. monetary easing caused the dollar to depreciate, which reduced foreign
GDP by shifting demand toward cheaper U.S. goods, foreign economies benefited from a
stronger expansion in U.S. domestic demand. Moreover, U.S. monetary easing also stimulated
foreign GDP by depressing foreign bond yields and raising the prices of risky assets.
Of course, there were considerable differences in how foreign economies were affected by the
Fed's policies. Because the advanced foreign economies (AFEs) also experienced slow growth
after the financial crisis, their central banks adopted similar policies. By contrast, the Fed's
accommodative policies put further upward pressure on asset prices and currencies in some
emerging market economies (EMEs) that were already experiencing rapid output growth. Thus,
EME central banks had to navigate between tightening policy more-and hurting exports through
a bigger exchange rate appreciation-and maintaining an accommodative stance closer to the
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Fed's, but with a higher risk of overheating. These tradeoffs faced by EME central banks
underscore some of the challenges posed by monetary policy divergence with the United States
-a tradeoff with which I am personally very familiar.
Spillovers from Recent Policy Tightening
Monetary policy divergence remains a familiar theme today, but the focus has obviously shifted to
the consequences of tighter U.S. monetary policy for the global economy. Policy divergence is an
ongoing concern given that most AFEs and many EMEs have continued to pursue highly
accommodative monetary policies that remain appropriate in light of their weaker cyclical
positions and subdued levels of underlying inflation. Many observers point to the "taper tantrum"
in 2013 as illustrating how monetary tightening by the Federal Reserve can potentially have
strong contractionary effects on foreign financial conditions. Subsequently, the expectation that a
steadily improving U.S. labor market would call for tighter U.S. monetary policy-and hence imply
greater monetary divergence with our trading partners-helped drive a sharp appreciation of the
dollar between the middle of 2014 and the end of last year that was accompanied by capital
outflows from many EMEs.
Against this backdrop and the concerns it raises, the reaction in financial markets to the FOMC's
decisions to increase the target range for the federal funds rate following its December 2016 and
March 2017 meetings-by a cumulative total of 50 basis points-seems benign. The yields on
risky foreign bonds, especially in EMEs, have continued to decline to below historical norms, and
global stock prices have risen. The dollar has depreciated since mid-December, especially
against EMEs, and the EMEs have experienced capital inflows.
In my view, this favorable reaction partly reflects a view by market participants that the rate hikes
are a signal of the FOMC's confidence in the underlying prospects for the U.S. economy that in
turn has increased confidence in the global outlook: A strong U.S. economy is a major plus for
the global economy. But the main reason for the positive market reaction is that foreign output
expansions appear more entrenched, and downside risks to those economies noticeably smaller
than in recent years. In Europe, unemployment has fallen steadily; inflation and inflation
expectations are moving toward central bank targets; and, while Brexit entails many unknowns,
so far it has not resulted in significant financial market disruptions. China's economy also
appears to be on a more solid footing, which has helped stabilize the renminbi as well as support
growth in other EMEs.
The IMF staff has taken these developments into account in the April 2017 World Economic
Outlook (WEO) and forecasts that world GDP growth will be noticeably higher over the next two
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years than in 2016-a slight upward revision relative to the October 2016 WEO. There may well
even be some chance that foreign economies kick into gear enough that U.S. and foreign
business conditions become reasonably well aligned, as occurred during the U.S. monetary
tightening cycles that began in 1999 and in 2004. In both of those episodes, U.S. exports grew
substantially against the backdrop of a brisk expansion in foreign activity and a stable or even
slightly depreciating dollar.
Of course, it is hard to predict whether foreign economies continue to strengthen so that the
global economy will move more in sync-as I hope-or if a substantial gap will remain between
the business cycle positions of the United States and our foreign trading partners. However, even
if monetary policy divergence remains substantial, there is good reason to think that spillovers to
foreign economies will be manageable. First, I expect that the Fed's removal of accommodation
will be driven by a continued expansion of the U.S. economy; thus, foreign economies are likely
to benefit from the developments that induce the FOMC to tighten. Second, most foreign central
banks should be able to mitigate an undesirable tightening of their own financial conditions
through appropriate policy actions. An important lesson of the taper tantrum was that effective
communication and actions by major central banks, including the European Central Bank and the
Bank of England, were helpful in quickly pushing bond yields down to levels that these central
banks regarded as appropriate to their economic situation. Third, many EMEs have markedly
improved fundamentals-including smaller current account deficits and more anchored inflation
expectations-that should allow them to better withstand the effects of U.S. tightening, though
some vulnerabilities remain.
Finally, I expect that U.S. policy normalization will be gradual under likely scenarios for the
evolution of output and inflation. A gradual and ongoing removal of accommodation seems likely
both to maximize the prospects of a continued expansion in the U.S. economy and to mitigate
the risk of undesirable spillovers abroad.
References
Ammer, John, Michiel De Pooter, Christopher Erceg, and Steven Kamin (2016). "International
Spillovers of Monetary Policy," IFDP Notes. Washington: Board of Governors of the Federal
Reserve System, February 8.
Bernanke, Ben S. (2015). "Federal Reserve Policy in an International Context (PDF),"
MundellFleming lecture presented at the 16th Jacques Polak Annual Research Conference, International
Monetary Fund, Washington, November 5.
Fischer, Stanley (2016). "U.S. Monetary Policy from an International Perspective," speech
delivered at the 20th Annual Conference of the Central Bank of Chile, Santiago, November 11.
Fratzscher, Marcel, Marco Lo Duca, and Roland Straub (2013). "On the International Spillovers of
U.S. Quantitative Easing (PDF)," Working Paper Series 1557. Frankfurt: European Central Bank
(June).
International Monetary Fund (2017). World Economic Outlook. Washington: IMF, April.
Neely, Christopher J. (2015). "Unconventional Monetary Policy Had Large International Effects,"
Journal of Banking and Finance, vol. 52 (March), pp. 101-11.
Rogers, John H., Chiara Scotti, and Jonathan H. Wright (2014). "Evaluating Asset-Market Effects
of Unconventional Monetary Policy: A Multi-Country Review," Economic Policy, vol. 29 (October),
pp. 749-99.
Sahay, Ratna, Vivek Arora, Thanos Arvanitis, Hamid Faruqee, Papa N'Diaye, Tommaso
ManciniGriffoli, and an IMF Team (2014). "Emerging Market Volatility: Lessons from the Taper Tantrum
(PDF)," IMF Staff Discussion Note SDN/14/09. Washington: International Monetary Fund,
September.
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The views expressed are mine and not necessarily those of the Federal Reserve Board or the Federal Open
Market Committee. I am grateful to Chris Erceg for his assistance.
2
There is a large empirical literature assessing the spillovers from Federal Reserve policy actions, including
those from unconventional policies such as large-scale asset purchases-for example, Fratzscher, Lo Duca,
and Straub (2013); Rogers, Scotti, and Wright (2014); Neely (2015); and Sahay and others (2014).
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My November 11, 2016, speech (Fischer, 2016) provides a more detailed discussion of spillovers from U.S.
monetary policy, including some quantitative estimates that draw on the analysis of Ammer and others (2016).
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For a more detailed discussion, see Fischer (2016) and Bernanke (2015).
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See International Monetary Fund (2017).