christopher j waller : the economic outlook and a cautionary tale on “ idiosyncratic ” price changes and inflation speech ( via webcast ) by mr christopher j waller, member of the board of governors of the federal reserve system, at the stanford institute for economic policy research associates meeting, stanford, california, 19 october 2021. * * * thank you to the institute for the opportunity to speak to you. today my goal is to explain my outlook for the u. s. economy as well as how that perspective shapes my views on the appropriate approach to monetary policy. 1 i have three points i would like you to take away from my comments. first, while there has been a significant slowdown in third quarter gross domestic product ( gdp ) growth, it should rebound in the first half of 2022. second, i believe that substantial progress has been made on both the inflation and employment legs of our dual mandate. hence, i believe that we should soon commence tapering our asset purchases. finally, the next several months are critical for assessing whether the high inflation numbers we have seen are transitory. if monthly prints of inflation continue to run high through the remainder of this year, a more aggressive policy response than just tapering may well be warranted in 2022. in terms of economic growth, data for the third quarter of 2021 show that the economic recovery slowed as the effects of the delta variant caused consumers and businesses to start pulling back on some forms of economic activity such as travel and leisure. measures of consumer mobility, which are a good indicator of spending, grew strongly starting last winter but then started falling in june, around when the effects of delta started to become significant. i and most other forecasters expected that real gdp would grow close to the very strong rate posted in the first half of the year, but it now appears that gdp growth will be closer to 3 percent at an annual rate. the two major causes of this slowdown have been the extent of the economic effects of the delta surge and the extent of supply constraints, both of which had larger effects than i and most forecasters expected. that was due to both the disappointingly low levels of vaccination in some areas and how highly contagious delta proved to be. meanwhile, we have seen labor shortages in many regions and many sectors that seem unwarranted given the level of unemployment and other indicators of slack in the labor market. and supply constraints have been very widespread, with many causes, only some of

so that a 1 percentage point decline in debt growth predicts a decline of 0. 34 percentage point in gdp initially and 0. 44 percentage points in the long run. because a standard reverse causality story from gdp growth to debt growth suggests that the ols estimate of the debt - growth coefficient is upwardly biased, the finding that the iv estimate is larger than the ols estimate is indeed quite surprising. this surprising finding raises several questions. it can call into question the validity of the instruments, which, to be valid, need to be correlated with debt growth and yet be unaffected by economic growth. this assumption, however, is unlikely to be correct because poor prospects for economic growth surely raise credit risk, thereby leading to a higher ted spread and less willingness to lend on the part of banks. thus, a higher ted spread and less willingness to lend may reflect the likelihood of tougher economic times ahead and not an exogenous shift in credit supply. the final calculation in the paper is to combine the authors'iv estimates with their estimate of the decline in lending from leveraged institutions of $ 910 billion to estimate the impact on gdp growth. the $ 910 billion drop in debt against a $ 30. 3 trillion amount of nonfinancial debt outstanding is a 3 percentage point drop in nonfinancial debt growth, which when multiplied by the 0. 44 long - run coefficient on debt growth, lead to a slowing of gdp growth of 1. 3 percentage points over the following year. although this number is not implausible, there are reasons to be suspicious of it. on the one hand, even if you accept the iv coefficient estimate, despite the reasons to doubt its accuracy, it might overstate the impact of the decline in leveraged institution lending on the economy ; as mentioned earlier, other sources of lending might come online if leveraged institutions stop lending. on the other hand, the estimated impact on the economy could be too low. as i have discussed, the disruption to the financial system is far broader than just to leveraged institutions. to the extent that the meltdown in the mortgage market has revealed even deeper problems in the financial system, the negative impact on economic activity could be even larger. conclusion i very much enjoyed reading this paper. many of the calculations in the paper are especially useful and help us get a better handle on how the recent turmoil in credit markets can affect the economy. i agree with the basic story that the authors tell, which is that relatively small