The Fed “was undertaking this review to deal with exactly the kind of problem that we face right now, of what to do in circumstances like this,” said Janet L. Yellen, a former Fed chair. “This is precisely the concern. When the economy is hit by a shock, you need a framework. ... In a way, this has given this mission added urgency."
The timing reflects one of the core challenges of central banking. By tweaking interest rates or creating emergency lending programs, the Fed can respond quickly to problems as they begin to bubble up in the economy. But long-term planning can also be sideswiped by a recession as sudden and unprecedented as this one.
“Monetary policy is really good for playing defense,” said Adam S. Posen, president of the Peterson Institute for International Economics. “But not for playing offense.”
No matter the specifics of the policy review, pressure is on the Fed to steer the economy toward a stable and equitable recovery. A recession that kicked tens of millions of Americans out of the workforce has only widened long-standing racial economic gaps, and critics say the Fed’s moves to bolster the stock market and keep interest rates low, fueling a housing boom for the well-off, have also worsened income and wealth inequality.
There’s no expectation that the Fed can heal the economy alone, and Congress still is deadlocked over another wave of stimulus. It’s unclear how the Fed’s tools could be used to home in on certain racial groups or slices of the economy. But the crisis and the Fed’s look at how it uses its arsenal have ushered in fresh conversations about what the Fed’s mandate means and how it can serve everyone.
As interest rates ticked downward since the Great Recession, economists and Fed officials worried that the central bank would have less room to slash rates to zero in the event of another downturn. At the start of the year, the Fed kept interest rates low — in a range of 1.5 to 1.75 percent — to keep the economy growing at a slow and steady pace.
At the same time, inflation has stayed below the Fed’s 2 percent target for years. The Fed’s current rule book suggests that the moment inflation tops that threshold, the Fed would quickly raise rates to bring inflation back down.
But now, many economists argue that a strong recovery will depend on inflation growth beyond 2 percent. The Fed’s policy review is widely expected to move toward average inflation targeting, which would allow for some overshoot of the 2 percent target to balance out periods when inflation skirted below. Although Powell is expected to spell out more details in his speech, the final policy review may not be officially presented until the Fed’s September meeting or later.
David Beckworth, an expert on monetary policy at George Mason University’s Mercatus Center, said the timing of the review could help shore up a stable recovery and give the Fed “license not to worry or get worked up about inflation rising a little bit.”
Yet Beckworth said he was unsure whether the Fed has come away with the credibility to take on a new approach. Last year, the Fed conducted a “Fed Listens” tour to gauge how the labor market and interest rates were affecting Americans. Beyond that, Beckworth said the Fed hasn’t pushed hard to persuade others why the framework matters.
“If it hasn’t got buy-in from Congress or buy-in from the public, can they actually implement it, or will they resort to the old approach? Beckworth said. "If I had one big critique of the review process, which has been going on a year and a half, it’s that it hasn’t been more of a campaign rally. ... It was low energy. It should have been ‘Fed Listens and Promotes.’ ”
There is also the question of how exactly the Fed will achieve higher inflation. Fed leaders have said interest rates will stay at zero for some time, and many countries beyond the United States are also struggling with low inflation.
Low rates, plus the expectation that they will stay low, means that “the effectiveness of that mechanism is impaired” when it comes to boosting economic growth, Roberto Perli, a former Fed official and founding partner and head of global policy at Cornerstone Macro, said in an analyst note released on video last week.
“I think it’s necessary to keep rates low and to hope that inflation comes up,” Perli said. “I think it’s questionable whether it is sufficient, so count me among the skeptics.”
Powell is likely to fill in more details about the review and the Fed’s thinking during his speech at the symposium in Jackson Hole, typically an invitation-only gathering of central bankers in the scenic mountains of Wyoming.
In perhaps the most literal reflection of just how much has changed, the speech will be given virtually and live-streamed.
(Correction: An earlier version of this article said the Fed’s mandate included maximum unemployment instead of employment. This version has been updated.)