Loretta Mester, Speech: Transitioning Monetary Policy
“The recovery from the Great Recession was a slow one. While the recession officially ended in June 2009, the FOMC held the funds rate at zero until December 2015, when it raised the rate by 25 basis points. At that time, inflation was running below 1 percent, the unemployment rate was 5 percent, and real GDP growth was under 2 percent. The FOMC did not raise the funds rate again until a year later. Thereafter, the funds rate was gradually raised, with three 25-basis-point increases in 2017 and four more in 2018, the last one in December of that year, bringing the funds rate target range to 2-1/4 to 2-1/2 percent.”
“With respect to the balance sheet, the FOMC engaged in sizable asset purchases in the wake of the Great Recession, increasing its asset holdings to about $4.5 trillion. The Fed did not begin reducing the size of its balance sheet until October 2017, nearly two years after liftoff and when the target range of the funds rate had risen to 1 to 1-1/4 percent. At that point, the unemployment rate was about 4-1/4 percent, real output growth was near 2.7 percent, and inflation was still running slightly below 2 percent. Gradual reductions in assets continued until August 2019.”
“This time is very different. Instead of running below target, inflation has been running well above target for some time and is now at a nearly 40-year high. Labor markets are tight and the economy grew at a 5-1/2 percent pace last year. In addition, at nearly $9 trillion in assets, our balance sheet is now about double the size it was when the last reduction process began.”
“So, barring a material change in the economy, I anticipate that it will be appropriate to move the funds rate up at a faster pace this time and to begin reducing the size of the balance sheet soon and more quickly than last time. In terms of the balance sheet, I would also support selling some of our mortgage-backed securities at some point during the reduction process, something we did not do last time. Sales would help to speed the return of our portfolio’s composition to primarily Treasury securities, which would minimize the effect of our balance-sheet holdings on the allocation of credit across economic sectors, one of the FOMC’s principles for reducing the size of our balance sheet.”