Moreno Bertoldi, Paolo Pesenti, Hélène Rey, 29 July 2022

In November 2021, the Federal Reserve Bank of New York, the European Commission, and CEPR brought together US- and European-based policymakers and economists from academia, think tanks, and international financial institutions to discuss issues that transatlantic policymakers are facing. This column summarises the principal themes and findings of the conference discussion on questions such as how to support growth while addressing inflationary pressures, facilitating the climate transition, and reducing economic inequalities; what the key changes are in the Federal Reserve’s and ECB’s new monetary policy frameworks; and how best to consolidate public finances.

Borağan Aruoba, Thomas Drechsel, 17 May 2022

The recent surge in inflation has put central banks back into the spotlight. This column proposes a novel method to determine exogenous changes in monetary policy. Using information in the language of documents that economists at the Federal Reserve Board prepare for Federal Open Market Committee meetings, it predicts changes in the target interest rate and obtains a measure of monetary policy shocks as the residual. The dynamic responses of macroeconomic variables to the identified shock measure are consistent with the theoretical consensus, and the estimated shocks are not contaminated by the ‘Fed information effect’.

Alex Domash, Lawrence H. Summers, 13 April 2022

As inflation accelerates in the US, the Federal Reserve will raise interest rates in the hope of achieving a soft landing for the economy. This column uses historical data on unemployment and inflation to evaluate the likelihood that the Fed can lower inflation without causing a recession. The authors find that low levels of unemployment and high inflation are both strong predictors of future recessions, and that overheating indicators today suggest a very high probability of recession over the next two years. The likelihood of the Fed achieving a soft landing in the economy appears low. 

Gauti Eggertsson, Alessandro Lin, Josef Platzer, Luca Riva, 14 March 2022

The Fed recently introduced an average inflation targeting framework, in which past inflation shortfalls shape current policy. This column assesses this policy relative to alternatives in the context of the Covid-19 recession and recovery. The authors calibrate a simple New Keynesian model at the zero lower bound to replicate the Fed’s policy, finding that the new framework substantially reduced the US output contraction by about 40%. Alternative policies would have reduced the contraction by even more. The results suggest that the Fed places some weight on output stabilisation alongside inflation.

Enrique Martínez García, Rachel Doehr, 06 March 2022

Since 2021, the Federal Reserve has been signalling an earlier lift-off and a steepened federal funds rate path to rein in inflation. This column assesses evidence from the US of the signalling and uncertainty effects of forward guidance announcements. At the zero lower bound, forward guidance news shocks can have significant and asymmetric impacts, and historical evidence suggests the importance of clear communication to effectively restrain inflation. The Fed’s evolving guidance on lift-off and the removal of accommodation therefore pose more difficult trade-offs than were previously understood. 

Gabriele Ciminelli, John Rogers, Wenbin Wu, 05 March 2022

The capital flows literature does not distinguish between increases in US interest rates caused by upward revisions in the Fed economic outlook (information shocks) from those that are not (pure monetary policy shocks). This column argues that this distinction is crucial. Pure monetary policy shocks have conventional, negative effects but positive information shocks do not. The latter even drive a reallocation out of US Treasuries and into growth-sensitive US assets. If the current Fed tightening cycle is driven by expectations of stronger growth, it might not be bad news for emerging markets.

Jasper McMahon, Lucrezia Reichlin, Giovanni Ricco, 22 December 2021

The Federal Reserve has recently changed monetary stance and signalled a faster than anticipated pace of monetary tightening, while the ECB is more dovish. This column applies a statistical model to recent data on oil prices, inflation, expectations, labour markets and output, and finds that the model’s forecasts support the difference in stance of the two central banks. Based on an assessment of cyclical inflation being mostly driven by transitory energy price disturbances and a very small Phillips curve contribution in both jurisdictions, it predicts that in a year from now euro area HICP inflation will still be below the 2% target, at 1.75%, while in the US CPI inflation will be above, at 2.75%. 

Michele Ca' Zorzi, Luca Dedola, Georgios Georgiadis, Marek Jarociński, Livio Stracca, Georg Strasser, 25 May 2021

There is growing need to understand the international dimension of monetary policy. This column argues that ECB and Federal Reserve monetary policy decisions spill over to other countries asymmetrically. At the bilateral level, the Fed’s impact on the euro area is material to firms’ financial conditions and economic activity. Conversely, the impact of the ECB’s actions on the US economy is minimal. On a global scale, both central banks’ monetary policies matter for other countries, but the Fed’s monetary policy has a more sizeable impact, particularly on foreign financial variables, such as corporate bond spreads.

Seppo Honkapohja, Nigel McClung, 29 April 2021

Recent challenges have generated interest in new monetary policy frameworks, including average inflation targeting. The Federal Reserve adopted this policy in 2020, but they have not communicated many details about the policy itself. This column argues that an opaque average inflation targeting policy can de-anchor inflation expectations from the target equilibrium – even if expectations are initially well-anchored. Policymakers should be cautious when implementing average inflation targeting.

Robert McCauley, 30 March 2021

US banks currently hold almost $4 trillion in Fed deposits, as a result of the ongoing balance sheet expansion by the Federal Reserve. Meanwhile, a year-long exclusion of Fed deposits and US Treasuries from bank capital rules is set to expire on 31 March. This column proposes a simple, feasible, and mandate-consistent strategy to replace $3 trillion in deposits with Treasury bills. These Treasuries could be held not only by banks, but also by mutual funds and non-residents, and this substitution could also save taxpayers money.

Gavin Goy, Meilina Hoogland, Annelie Petersen, 15 March 2021

On the back of fiscal accommodation, a rebounding economy, and the Federal Reserve’s newfound tolerance for inflation overshoots, market-based inflation measures have surged, triggering concerns of an overheating of the US economy. By decomposing recent yield curve movements, this column shows that the steepening of the US Treasury curve corresponds with higher real term premia and a boost in both inflation expectations and the inflation risk premium. Lower real rate expectations suggest that markets do not yet expect the Fed to lean against the fiscal expansion. Simultaneously, the width of the distribution suggests that markets are relatively uncertain about the exact degree of overshooting the Fed will allow before stepping in. 

Gene Ambrocio, Andrea Ferrero, Esa Jokivuolle, Kim Ristolainen, 06 March 2021

Central banks often have inflation targets at the centre of their monetary policy regimes. This column presents survey data from 613 leading economists to explore their views on these inflation targets and wider policies within their countries of residence. The results suggest that maintaining the prevailing inflation target (for central banks that have one) has more support than changing it does. But more respondents are pessimistic about central banks’ ability to meet these targets, particularly in the euro area.

Mattia Bevilacqua, Lukas Brandl-Cheng, Jon Danielsson, Jean-Pierre Zigrand, 28 January 2021

While the direct economic consequences of Covid-19 have been significant, the impact on the financial markets has been more nuanced. This column uses a unique data set on the financial markets’ fears and perceptions of long-run financial risk to identify how Covid-19, and particularly Fed policy responses to Covid-19, affected global market fears. While some Fed interventions had little or no impact on market fear, the most powerful were the US dollar swap lines, which strongly reduced the perceived likelihood of global market losses decades into the future. The results suggest that the Fed's relative global role has been strengthened, possibly at the cost of increased moral hazard.

Gauti Eggertsson, Sergey Egiev, Alessandro Lin, Josef Platzer, Luca Riva, 21 October 2020

The Federal Reserve has recently announced a new policy strategy of average inflation targeting. The column argues that while this is unambiguously a positive step, it may not – under all circumstances – subscribe to a sufficiently aggressive make-up strategy when the zero lower bound is binding. This is particularly likely to be the case if episodes of high unemployment are not associated with material fall in inflation, a scenario that seems empirically relevant. The authors suggest alternatives that could do better, such as a targeting rule that treats the dual objective of the Federal Reserve in a symmetric way, or one that aims at minimising cumulative deviation of nominal GDP from trend.

Olivier Coibion, Yuriy Gorodnichenko, Edward S. Knotek II, Raphael Schoenle, 30 September 2020

On 27 August 2020, the Federal Reserve announced the adoption of a new strategy of ‘average inflation targeting’, which is to replace traditional inflation targeting. This column uses a daily survey of US households to study how this announcement affected inflation expectations. It finds a small uptick in the share of households reporting to have heard news about monetary policy on the day of the announcement, but hearing about the news did not appear to affect their expectations. Even providing households with information on average inflation targeting directly did not change expectations relative to households who received information on traditional inflation targeting.

Ignazio Angeloni, 14 September 2020

The long-awaited outcome of the Federal Reserve’s monetary strategy review is finally out. This column argues that while the ‘Powell doctrine’ responds to a genuine need to address issues in the Fed’s policy framework, it also introduces complexities in the interpretation and implementation of monetary policy which are likely to become more apparent over time. The hurdles involved do not have easy solutions, and other central banks pondering their own monetary policy framework are well advised to take heed.

Itamar Drechsler, Alexi Savov, Philipp Schnabl, 11 September 2020

In a recent speech in Jackson Hole, Fed Chair Jay Powell laid out the Fed’s new monetary policy framework.  Under this framework, the Fed will allow inflation to run above its 2% target in order to boost employment following a downturn.  The new framework marks a departure from the perceived wisdom of the 1970s’ Great Inflation.  Under this perceived wisdom, the Fed must respond aggressively to rising inflation or risk losing its credibility and letting inflation spiral out of control.  New research on the Great Inflation challenges this perceived wisdom and offers a new explanation for what really drives inflation.  Instead of Fed credibility, this explanation puts the financial system and how it transmits monetary policy front and centre.  In doing so, it reconciles the 1970s with the current environment and provides a foundation for understanding why the Fed’s new framework is unlikely to trigger runaway inflation.

Gregor Boehl, Gavin Goy, Felix Strobel, 30 August 2020

Despite their pivotal role, the macroeconomic effects of large-scale asset purchases, known as quantitative easing, remain open to debate. This column provides insights from a structural investigation of the macroeconomic effects of the Federal Reserve’s quantitative easing programme during the global financial crisis. In line with the general consensus, the results suggest that asset purchases substantially eased borrowing conditions and facilitated new investment. The rise in investment led to an increase in the productive capacity which, in turn, lowered firms’ marginal cost. These supply-side effects dominated demand-side effects in determining the response of inflation, leading to a mild disinflationary effect.

Robert McCauley, 26 August 2020

On 23 March 2020, the Federal Reserve announced that it would buy investment grade corporate bonds, and on 9 April set the amount at up to $250 billion and extended the purchase to junk bonds. This column shows that these interventions succeeded in stabilising credit markets: prices lifted and dealing spreads narrowed. However, emergency lending powers provide an inadequate basis for Federal Reserve operations in corporate bonds. In light of these findings, congressional authority to buy and to sell corporate bonds alongside US Treasuries would help to align Federal Reserve operations with what has become a capital-market centred financial system

Willem Buiter, 03 July 2020

The US Federal Reserve – the world’s most important central bank – is not in a good place. This column outlines three flaws in the operating practices of the Fed – (i) its refusal to adopt negative policy rates, (ii) the build-up of significant credit risks through non-transparent (quasi-)fiscal actions, and (iii) stress testing analysis which fails to account for the severity of the COVID-19 crisis. It proposes a number of ways forward, including a symmetric policy rate around zero, a temporary ban on dividend payments, new equity issuance, and conducting a comprehensive stress test of the financial system.

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