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2011 Annual Report

Monetary policymakers sought to
support a challenging economy


The fourth force influencing the U.S. economy in 2011 was monetary policy. This force is different from the other three discussed in this annual report. Specifically, it was applied in an effort to mitigate the negative effects of other forces that worked on the economy and support the multiyear recovery by keeping interest rates low.

Early in the year, the Federal Open Market Committee (FOMC) considered the potentially competing concerns of rising inflation and stubbornly high unemployment. However, the FOMC expected that inflation would fall to a level consistent with the Fed's then-informal target of 2 percent. The committee therefore maintained its accommodative policy to support growth and greater employment. In fact, inflation stabilized as the effects of the shocks that raised commodity prices earlier in the year faded during the latter half of the year. See the video.

Sidebar: Inflation Project "opened up our notebooks"

video of Inflation Project tutorial


Inflation means more than what's happening to the price of a loaf of bread or a gallon of gas. An Atlanta Fed initiative in 2011 set out to provide relevant, timely information that puts inflation into context. The project called for enhancing web pages for the Inflation Project, with more information and more features, including interactive information graphics.

The enhanced Inflation Project offers a video tutorial with Atlanta Fed senior economic policy specialist Laurel Graefe explains two of the new features: a monthly business inflation expectations survey and an inflation dashboard. See the video.

Early in the year, the Atlanta Fed Research Department began polling more than 300 people who set prices for large and small businesses based in the Southeast. This business inflation expectations survey became the nation's only broad measure of companies' inflation expectations and pricing plans.

The inflation dashboard allows users to view and interact with graphics to visualize recent statistics within the context of longer-term trends. Visitors to the site sort through six broad categories of data, including retail prices, labor costs, and producer prices. They can click through to find increasingly detailed information.

"We are in a sense opening up our notebooks to the public," Graefe said. "This is information we have been using to prepare President Lockhart for FOMC deliberations, and now the public can access it."

The Atlanta Fed initiated another project in 2011. The Fed Explained is a new feature designed to make the work of the Fed and information on key economic issues available to the general public. The new feature includes a video series, the first of which explains inflation.

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Federal Reserve policymakers faced a quandary early in the year. The Federal Open Market Committee (FOMC) had to respond to competing concerns, as rising inflation and stubbornly high unemployment made a rare joint appearance. On the one hand, maintaining an accommodative monetary policy stance could risk a further rise in inflation. On the other hand, tightening policy could restrain hiring and the already slow economic recovery.

The FOMC's decision early in the year—whether to immediately confront rising inflation or persistently high unemployment—was typical of the challenges presented by an unpredictable economy. While balancing appropriate responses to competing forces, Fed policymakers also had to consider different policy prescriptions appropriate to near- and longer-term needs. In the near term, these policymakers aimed to bolster the cyclical economic recovery through low interest rates and ample liquidity.

Policymakers had to strike a delicate balance
While balancing appropriate responses to competing forces, Fed policymakers also had to consider different policy prescriptions appropriate to near- and longer-term needs. In the near term, these policymakers aimed to bolster the cyclical economic recovery through low interest rates and ample liquidity.

Slow growth, low inflation led to more accommodation
During the year, the FOMC expanded the accommodative policy it had maintained since 2008. Many policymakers viewed low economic growth combined with modest inflation as justification for further accommodation.

The FOMC kept the federal funds rate at zero to 0.25 percent. To support mortgage markets, the FOMC chose to invest principal payments it received from holdings of agency securities into agency mortgage-backed securities. The FOMC also initiated a program to sell shorter-term agency securities and purchase an equal amount of longer-term agency securities. The maturity extension program—more popularly known as "Operation Twist"—was aimed at exerting downward pressure on longer-term interest rates.

European sovereign debt crisis led to further steps
The FOMC also moved to protect the U.S. financial system against potential damage from global financial turmoil, particularly the European sovereign debt crisis. It did this by extending currency swap arrangements with other central banks. These currency swaps made U.S. dollars available to foreign central banks so they could lend them to their commercial financial institutions, whose customers needed dollars rather than their domestic currencies.

Ensuring dollar liquidity around the world lessened the chances of repeating the global dollar shortages that crippled credit markets and exacerbated the 2008 financial crisis. In general, swap lines, by providing liquidity to the financial system in times of stress, help shield the U.S. economy from the effects of financial instability, regardless of its source.
Communication became another policy tool
Last year, the FOMC decided to provide more specific information about its expectations for the future path of the federal funds rate and expanded its commitment to transparency. Clear communication became not only an important adjunct to policy, but it also was in some ways a policy tool in itself. The FOMC based its steps toward more transparency on considerable evidence indicating that central bank transparency increases the effectiveness of monetary policy and enables households and businesses to make better-informed decisions. The idea behind clarifying expectations during 2011 was to stimulate borrowing, investment, and hiring—"to get people off the sidelines." So early in the year, the FOMC announced that Federal Reserve Chairman Ben Bernanke would hold quarterly news conferences to discuss monetary policy decisions and the economy.

Then in August, the FOMC changed the language it used to signal policy direction to the public. Rather than indicating that interest rates were likely to remain exceptionally low for "an extended period," the committee announced that the benchmark federal funds rate would likely remain at or near its current low level through at least the middle of 2013. (Subsequently, the FOMC extended this projection to late 2014.) In addition, the FOMC accelerated the release of each member's economic projections. (Those projections were initially made public in 2010 along with meeting minutes.)

The FOMC aimed to instill in the marketplace a greater sense of certainty about the direction of monetary policy by clearly stating its intentions and methods. For central banks with policy rates near the zero lower bound—as has been the case for the Fed since late 2008—influencing the public's expectations about future policy actions became a critical tool, Bernanke said in an October 2011 speech.

"The commitment to a policy framework that is transparent about objectives and forecasts was helpful, in many instances, in managing [public] expectations and thus in making monetary policy both more predictable and more effective during the past few years than it might otherwise have been," Bernanke said.

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