policy space in a negative spiral. as we have seen in other countries, if inflation consistently falls short of the central bank ’ s objective, consumers, workers, and businesses start to expect lower inflation to continue. expectations of low inflation can create a self - fulfilling dynamic with actual inflation, making it even more difficult for the central bank to boost inflation. and because inflation is reflected in nominal interest rates, that, in turn, can reduce the amount of policy space the central bank has available to prevent the economy from slipping into recession. in fact, in recent years, central banks around the world have had to use a larger variety of policy tools than they have traditionally used to support the recovery. some issues to explore given the new normal of low equilibrium interest rates and low sensitivity of inflation to slack, it is prudent to assess how well various approaches worked both here and around the world, with a view to identifying the best ways to promote the goals the congress assigned to us. earlier this month, we held a conference in chicago where we heard from experts as well as community organizations, small businesses, labor organizations, and retirees. we are looking at our tools and strategies, assessing not just the various approaches that were undertaken, but also approaches that have been proposed but not tried. one of the ideas discussed in chicago is that the federal reserve should explicitly promise to “ make up ” for misses on inflation during a downturn. the federal reserve could hold interest rates lower after a recession is over, perhaps by promising not to raise interest rates until inflation or the unemployment rate have reached particular levels. 5 a related idea discussed in chicago is average inflation targeting, meaning the federal reserve would aim to achieve its inflation objective, on average, over a longer period of time — perhaps over the business cycle. 6 this approach could also have aspects of a makeup policy, depending on how it is designed. while such approaches sound quite appealing on their face, they have not yet been implemented in practice. there is some skepticism that a central bank would in fact prove able to support above - target inflation over a sustained period without becoming concerned that inflation might accelerate, and inflation expectations might rise too high. 2 / 4 bis central bankers'speeches at the chicago conference, we also heard how difficult it can be to estimate with any precision the “ maximum employment ” leg of our dual mandate. 7 there is no fixed destination point for maximum employment — no single number where we can be sure we are “ there. ” maximum employment

of the moderation are that ( 1 ) economic shocks have been milder ; ( 2 ) inventory management has improved ; ( 3 ) financial innovations such as improved risk assessment and riskbased pricing have made credit more widely available, even during economic downturns ; and monetary policy has been better. the first explanation - - milder economic shocks - - has seemed less persuasive following the events of the late 1990s and early 2000s. from the asian financial crisis to the september 11 attacks to the corporate governance scandals to the surge in oil prices, powerful economic shocks have marked the past few years. yet, the economy has performed rather well, on balance, over this period. as for the second explanation - - better inventory management - - changes in inventory dynamics have indeed contributed significantly to the reduced volatility of gdp growth. those changes are consistent with anecdotal evidence and case studies about the use of information technology and better inventory management practices to catch incipient inventory overhangs before they become a problem. regarding the third explanation - - better availability of credit - - karen dynan, doug elmendorf and dan sichel, of the board's staff, present evidence in a recent paper that financial innovation has been partly responsible for the reduced variability of real activity of the past two decades or so. 1 according to their work, the greater availability and use of credit over time may have reduced economic volatility by reducing the sensitivity of household spending to downturns in income and cash flows and to karen e. dynan, douglas w. elmendorf, and daniel e. sichel ( 2006 ), " can financial innovation help to explain the reduced volatility of economic activity? " journal of monetary economics, vol. 53, pp. 123 - 50. fluctuations in interest rates, with the result that consumer spending and home purchases have become less sensitive to contemporaneous income. let me focus for a moment on the fourth explanation, that monetary policy has been better. i think it has indeed been better. we are better at understanding how the economy operates ( and therefore, at evaluating the appropriate stance of monetary policy ) and we are more determined to pursue the goal of price stability. but secondarily, i think the greater dominance of market - based finance, combined with a greater transparency by the federal reserve, has made both the mechanism of monetary policy and the intentions of the central bank more understandable to market participants. the mechanism of