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Federal Reserve Speeches·

Jefferson, Navigating Economic Shocks: A Monetary Policymaker’s Perspective

  • The speaker discusses how the Federal Reserve analyzes & responds to unpredictable economic shocks in real time to meet its dual mandate of maximum employment & price stability.
  • Economic shocks are classified as either demand-side (affecting consumption, investment, government spending, & net exports) or supply-side (affecting productive capacity & potential output).
  • The output gap measures the difference between actual GDP & potential output; a positive gap signals excess demand & inflationary pressure, while a negative gap signals excess supply & downward pressure on inflation.
  • When shocks move output & inflation in the same direction, monetary policy actions support both mandates; when they move in opposite directions, policymakers face a tradeoff requiring a balance of risks.
  • The current policy dilemma involves a supply shock from Middle East conflict & energy prices that raises inflation while employment remains near maximum sustainable levels.
  • Trade policy changes are also creating overlapping shocks that affect both output & prices, complicating the assessment of the economy's productive capacity.
  • Artificial intelligence (AI) presents a dual shock with potential persistent effects on both supply (productivity gains) & demand (increased investment & consumption).
  • The timing of AI's effects matters: if demand effects precede supply gains, inflation may rise; if productivity lowers costs sooner, inflation may fall.
  • AI could alter the neutral rate of interest (r*) by increasing investment demand or reducing savings, though the net effect is uncertain due to potential inequality impacts.
  • The FOMC currently maintains the federal funds rate target range at 3.25% to 3.75% to support the labor market while allowing inflation to decline toward the 2% target.
  • The speaker remains committed to returning inflation to 2% & notes that policy could be reconsidered if inflation fails to cool as expected.
  • Effective policy response relies on correctly identifying shocks, maintaining well-anchored inflation expectations, & adapting to evolving economic conditions.