likely slip below the target rate as well. 5 a simple example helps illustrate this problem. say that 80 percent of the time, the lower bound on interest rates does not constrain policy and the central bank aims for a 2 percent target inflation rate. during these “ good ” times, an inflation - targeting central bank aims to keep inflation near 2 percent. but, 20 percent of the time, the economy falls into a recession that ’ s severe enough that the lower bound constrains policy. assume that during these periods, inflation averages only 1 percent. so, 80 percent of the time inflation averages 2 percent and 20 percent of the time inflation averages 1 percent. the resulting average rate of inflation is about 1. 8 percent. as a consequence, inflation expectations are likely to become anchored at the long - run average of 1. 8 percent, below the desired 2 percent target. but, that ’ s not the end of the story. this downward shift in inflation expectations has a secondround effect on real interest rates, the economy, and inflation. when policy is constrained by the effective lower bound, the downward shift in inflation expectations raises the real interest rate, further diminishing the degree of monetary stimulus, making the downturn worse and reducing inflation even more. even in times when policy is not constrained, the expectation of belowtarget inflation in the future affects current decisions, putting additional downward pressure on inflation. in other words, monetary policy is always swimming upstream, fighting a current of toolow inflation expectations that interferes with achieving the target inflation rate. a number of alternative monetary policy frameworks have been proposed that aim to tackle the problems associated with the lower bound on interest rates. although they differ in many ways, it is useful to divide these proposals into three broad categories. the first option is to maintain the basic framework of inflation targeting and to rely on a combination of aggressive conventional and unconventional policy actions when facing economic downturns to limit the deleterious effects of the lower bound. this carries with it the risk that inflation expectations become anchored at too low a level. the second option is “ average - inflation targeting, ” whereby the central bank purposefully aims to achieve an above - target inflation rate in “ good ” times when the lower bound is not a constraint. properly designed and implemented, such an overshoot can offset the inflation undershoot during “ bad ” times so that the longer - run average inflation rate and inflation expectations are in 2 / 3 bis central bankers

john c williams : monetary policy strategies for a low - neutralinterest - rate world remarks by mr john c williams, president and chief executive officer of the federal reserve bank of new york, at the 80th plenary meeting of the group of thirty, federal reserve bank of new york, new york city, 30 november 2018. * * * as prepared for delivery i would like to start by thanking tharman for the invitation to participate in this panel of esteemed current and former policymakers. i am also pleased to continue the long tradition of hosting the group of thirty at the federal reserve bank of new york and very much look forward to this morning ’ s discussion. in my remarks, i will focus on the following question : what long - run monetary policy strategy is best suited to anchor inflation expectations, foster price stability, and promote maximum employment? i emphasize the phrase “ long - run ” because i will focus on the features of a systematic policy framework, rather than tactical policy decisions. this topic is not only of academic interest : as was recently announced, the federal reserve is embarking on a review of its long - run monetary policy framework. 1 i will argue that the global decline in the neutral rate of interest over the past quarter century poses significant challenges to maintaining wellanchored inflation expectations in a standard inflation - targeting regime. i will then lay out some alternative policy strategies that have the potential of providing a solid anchor for inflation expectations — even with a very low neutral interest rate — while preserving broad continuity with current inflation - targeting practice. now that i am already way out on a limb, i should emphasize that my remarks reflect my own views and not necessarily those of the federal open market committee or anyone else in the federal reserve system. as a starting point, it ’ s useful to travel back in time to the 1980s and 1990s, when inflation targeting was introduced. the problem at the time was high and variable inflation that contributed to macroeconomic instability and unmoored inflation expectations, which in turn fueled high and variable inflation. to break this vicious cycle, numerous central banks instituted inflation targeting, or variants thereof, with a focus on bringing inflation down to a low level and fostering the establishment of stable, well - anchored inflation expectations. this strategy worked extraordinarily well in the decade preceding the global financial crisis, as central banks were able to achieve remarkably low and stable inflation, leading to a positive feedback loop between low inflation and well - anchored inflation expectations. today, we