mr meyer discusses the new challenges for monetary policy identified at the jackson hole conference remarks by mr laurence h meyer, member of the board of governors of the us federal reserve system, before the department of finance lecture series, university of missouri, columbia, missouri on 12 october 1999. * * * each year in late august, for the last 23 years, the federal reserve bank of kansas city has hosted a conference where central bankers from around the world tackle issues relevant to the setting and implementation of monetary policy. they are joined by academics, former federal reserve governors, and private - sector economists. a core group returns every year and contributes a particularly strong sense of camaraderie. the lure of the conference is the extraordinary combination of an excellent choice of topics, a high level of formal presentations and discussions, the opportunity to engage in a series of more informal conversations over coffee, at meals, and on hikes, and to do all this in the shadow of the tetons. i told tom hoenig, the president of the kansas city fed, that when i was considering whether or not to accept the nomination to join the board of governors, the deciding factor was the prospect that, by doing so, i would receive a lifetime perk of an invitation to the jackson hole conference. the themes are always interesting, but i found this year ’ s conference particularly stimulating – so much so that i decided to use the presentations and discussions at jackson hole as the organizing framework for today ’ s lecture. the title of this year ’ s conference was “ new challenges for monetary policy. ” the papers described both the emerging consensus about the objectives and strategies underlying the conduct of monetary policy and highlighted a number of new challenges. in the first section of today ’ s lecture i will outline the framework and identify the objectives of monetary policy, describe the operational procedures used to conduct monetary policy, and discuss the strategy for carrying out monetary policy to achieve those objectives. a number of participants at the conference suggested that there was an emerging consensus about the appropriate strategy – specifically, flexible inflation targeting. then i will turn to the new challenges for monetary policy identified at the conference. each is illustrated by current or recent experience around the world. first, does a low - inflation environment – and specifically the possibility that nominal interest rates might decline to zero in such an environment – constrain the effectiveness of monetary policy, and if so, how can monetary policy adjust to maintain its effectiveness? second, how should monetary policy respond to movements

one step further. under a currency board, the threat remains that the government will abandon this arrangement and devalue the currency or let it float. dollarization increases the commitment of a country to a fixed exchange rate. under dollarization, a country uses dollars for its domestic currency. it therefore faces dollar interest rates, although these rates will not necessarily be the same as those prevailing in the united states. once again it has given up independent monetary policy. the advantage of this regime is that it might reduce risk premia that remain in domestic interest rates under a currency board that reflects the risk that the currency board might be abandoned. of course, a country could reverse dollarization as well, but the costs of such a move would be very great. at the jackson hole conference, eichengreen and hausmann presented a discussion of the choice between flexible and very fixed exchange rates for small open economies. they suggested that a problem that besets many such economies is that, because of weak institutions and a failure to pursue sound policies, neither the government nor private citizens can borrow long - term or abroad in their domestic currency. the result is dangerous portfolio mismatches – long - term projects are financed with short - term debt and / or domestic projects are financed with foreign currency loans. in either case, the government and private citizens are subjected to the risks of unexpected changes in short - term interest rates and / or to the risks of a change in exchange rates. a currency board or dollarization arrangement, in such a case, might reduce the risks associated with such mismatches. as a result, the country might be able to reduce its risk premium, lower its vulnerability, and increase its access to long - term and foreign finance. in my view, the underlying problem, however, is often the mismatch between the speed with which an emerging market economy participates in the global economy and the speed with which its institutions and policies adapt to global norms. the best choice over time would appear to be to develop robust domestic institutions and pursue sound policies, including a disciplined monetary policy, and adopt a flexible exchange rate regime. an increased reliance on foreign direct investment relative to short - term portfolio capital might also be desirable. the real question is how to get there from where many emerging market economies find themselves today. there are, i believe, many advantages to a flexible exchange rate regime. it avoids the problem of choosing the right level at which to fix the exchange rate. it allows exchange rates