Federal Reserve opts to keep interest

rates near zero

By Greg Robb and Steve Goldstein
Published: Sept 17, 2015 5:34 p.m. ET

The Federal Reserve held interest rates steady on Thursday due to global headwinds that could slow the
economy and keep inflation subdued as the central bank kept alive the possibility of a hike before the end
of the year. The Fed said in a statement: recent global economic and financial developments may restrain
economic activity somewhat and are likely to put further downward pressure on inflation in the near
term.
By a 9-to-1 vote, the Fed kept rates steady as it said that the financial market turmoil did not change its
assessment that the risks to the economy were nearly balanced, but added a new phrase that it was
monitoring developments abroad.
Federal Reserve Chairwoman Janet Yellen said the Fed considered hiking interest rates on Thursday.
However, in light of the heightened uncertainties abroad and the slightly softer expected path for
inflation, the committee judged it appropriate to wait for more evidence, including some further
improvement in the labor market, to bolster its confidence that inflation will rise to 2% in the medium
term, she said in an introductory statement to the news conference.
Brian Barnier, principal at ValueBridge Advisors, said the Fed is still getting its hands around the lack of
inflationary pressure in the economy. There has been no inflation in the U.S. economy since the 1990s in
anything other than highly regulated services: health care, education, banks and housing, he said.
The Fed meets two more times this year, on Oct. 27-28 and Dec. 15-16. With no press briefing planned in
October, many analysts will push their expectations of a move to December. But other analysts argue an
October move should be viewed as a very real option, and Yellen during the news conference explicitly
said it could raise interest rates next month.
According to the latest so-called dot-plot, 13 of the 17 Fed officials think the Fed will raise rates at least
once before the end of the year. One, Richmond Fed President Jeffrey Lacker, dissented from the decision
as he wanted a quarter-point rate hike.
But there were also moves in the dovish direction. One more Fed official joined the ranks of Fed officials
wanting to hold off a rate hike in 2015.

And one U.S. central banker, presumably uber-dove Minneapolis Fed President Narayana Kocherlakota,
is now advocating negative interest rates for the U.S. economy in 2015 and 2016.
The Fed also lowered where it believes rates should be in the longer run to 3.5% from 3.8% three months
ago.ValueBridges Barnier said the Fed may have much more lowering of its long term rate forecasts to
come. That number has got to be lower, he said. If you have mountains of cash, and rates are attracting
more cash, then its supply and demand.

Press Release Board of Governors

Release Date: September 17, 2015

For immediate release
Information received since the Federal Open Market Committee met in July suggests that economic activity is
expanding at a moderate pace. Household spending and business fixed investment have been increasing
moderately, and the housing sector has improved further; however, net exports have been soft. The labor
market continued to improve, with solid job gains and declining unemployment. On balance, labor market
indicators show that underutilization of labor resources has diminished since early this year. Inflation has
continued to run below the Committee's longer-run objective, partly reflecting declines in energy prices and in
prices of non-energy imports. Market-based measures of inflation compensation moved lower; survey-based
measures of longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.
Recent global economic and financial developments may restrain economic activity somewhat and are likely to
put further downward pressure on inflation in the near term. Nonetheless, the Committee expects that, with
appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market
indicators continuing to move toward levels the Committee judges consistent with its dual mandate. The
Committee continues to see the risks to the outlook for economic activity and the labor market as nearly
balanced but is monitoring developments abroad. Inflation is anticipated to remain near its recent low level in
the near term but the Committee expects inflation to rise gradually toward 2 percent over the medium term as
the labor market improves further and the transitory effects of declines in energy and import prices dissipate.
The Committee continues to monitor inflation developments closely.
To support continued progress toward maximum employment and price stability, the Committee today
reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate.
In determining how long to maintain this target range, the Committee will assess progress--both realized and
expected--toward its objectives of maximum employment and 2 percent inflation. This assessment will take into
account a wide range of information, including measures of labor market conditions, indicators of inflation
pressures and inflation expectations, and readings on financial and international developments. The Committee
anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some
further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent
objective over the medium term.
The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency
debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over

maturing Treasury securities at auction. This policy, by keeping the Committee's holdings of longer-term
securities at sizable levels, should help maintain accommodative financial conditions.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach
consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee
currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic
conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views
as normal in the longer run.

Statement on Longer-Run Goals and Monetary Policy

Strategy
Adopted effective January 24, 2012; as amended effective January 27, 2015

The Federal Open Market Committee (FOMC) is firmly committed to fulfilling its statutory mandate from the
Congress of promoting maximum employment, stable prices, and moderate long-term interest rates. The Committee
seeks to explain its monetary policy decisions to the public as clearly as possible. Such clarity facilitates wellinformed decisionmaking by households and businesses, reduces economic and financial uncertainty, increases the
effectiveness of monetary policy, and enhances transparency and accountability, which are essential in a democratic
society.
Inflation, employment, and long-term interest rates fluctuate over time in response to economic and financial
disturbances. Moreover, monetary policy actions tend to influence economic activity and prices with a lag.
Therefore, the Committees policy decisions reflect its longer-run goals, its medium-term outlook, and its
assessments of the balance of risks, including risks to the financial system that could impede the attainment of the
Committees goals.
The inflation rate over the longer run is primarily determined by monetary policy, and hence the Committee has
the ability to specify a longer-run goal for inflation. The Committee reaffirms its judgment that inflation at the rate
of 2 percent, as measured by the annual change in the price index for personal consumption expenditures, is most
consistent over the longer run with the Federal Reserves statutory mandate. Communicating this inflation goal
clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability
and moderate long-term interest rates and enhancing the Committees ability to promote maximum employment in
the face of significant economic disturbances. The maximum level of employment is largely determined by nonmonetary factors that affect the structure and dynamics of the labor market. These factors may change over time and
may not be directly measurable. Consequently, it would not be appropriate to specify a fixed goal for em ployment;
rather, the Committees policy decisions must be informed by assessments of the maximum level of employment,
recognizing that such assessments are necessarily uncertain and subject to revision. The Committee considers a wide
range of indicators in making these assessments. Information about Committee participants estimates of the longerrun normal rates of output growth and unemployment is published four times per year in the FOMCs Summary of
Economic Projections. For example, in the most recent projections, FOMC participants estimates of the longer-run
normal rate of unemployment had a central tendency of 5.2 percent to 5.5 percent.
In setting monetary policy, the Committee seeks to mitigate deviations of inflation from its longer-run goal and
deviations of employment from the Committees assessments of its maximum level. These objectives are generally
complementary. However, under circumstances in which the Committee judges that the objectives are not
complementary, it follows a balanced approach in promoting them, taking into account the magnitude of the devi -

ations and the potentially different time horizons over which employment and inflation are projected to return to
levels judged consistent with its mandate.
The Committee intends to reaffirm these principles and to make adjustments as appropriate at its annual
organizational meeting each January.

Fiscal Policy: Taking and Giving Away

Finance & Development
Mark Horton and Asmaa El-Ganainy
Fiscal policy is the use of government spending and taxation to influence the economy.
Governments typically use fiscal policy to promote strong and sustainable growth and reduce
poverty. The role and objectives of fiscal policy gained prominence during the recent global
economic crisis, when governments stepped in to support financial systems, jump-start growth,
and mitigate the impact of the crisis on vulnerable groups. In the communiqu following their
London summit in April 2009, leaders of the Group of 20 industrial and emerging market
countries stated that they were undertaking unprecedented and concerted fiscal expansion.
What did they mean by fiscal expansion? And, more generally, how can fiscal tools provide a
boost to the world economy?
Historically, the prominence of fiscal policy as a policy tool has waxed and waned. Before 1930,
an approach of limited government, or laissez-faire, prevailed. With the stock market crash and
the Great Depression, policymakers pushed for governments to play a more proactive role in the
economy. More recently, countries had scaled back the size and function of governmentwith
markets taking on an enhanced role in the allocation of goods and servicesbut when the global
financial crisis threatened worldwide recession, many countries returned to a more active fiscal
policy.
How does fiscal policy work?

When policymakers seek to influence the economy, they have two main tools at their disposal
monetary policy and fiscal policy. Central banks indirectly target activity by influencing the
money supply through adjustments to interest rates, bank reserve requirements, and the purchase
and sale of government securities and foreign exchange. Governments influence the economy by
changing the level and types of taxes, the extent and composition of spending, and the degree
and form of borrowing.
Governments directly and indirectly influence the way resources are used in the economy. A
basic equation of national income accounting that measures the output of an economyor gross
domestic product (GDP)according to expenditures helps show how this happens:

GDP = C + I + G + NX.
On the left side is GDPthe value of all final goods and services produced in the economy. On
the right side are the sources of aggregate spending or demandprivate consumption (C),
private investment (I), purchases of goods and services by the government (G), and exports
minus imports (net exports, NX). This equation makes it evident that governments affect
economic activity (GDP), controlling G directly and influencing C, I, and NXindirectly, through
changes in taxes, transfers, and spending. Fiscal policy that increases aggregate demand directly
through an increase in government spending is typically called expansionary or loose. By
contrast, fiscal policy is often considered contractionary or tight if it reduces demand via lower
spending.
Besides providing goods and services like public safety, highways, or primary education, fiscal
policy objectives vary. In the short term, governments may focus on macroeconomic
stabilizationfor example, expanding spending or cutting taxes to stimulate an ailing economy,
or slashing spending or raising taxes to combat rising inflation or to help reduce external
vulnerabilities. In the longer term, the aim may be to foster sustainable growth or reduce poverty
with actions on the supply side to improve infrastructure or education. Although these objectives
are broadly shared across countries, their relative importance differs, depending on country
circumstances. In the short term, priorities may reflect the business cycle or response to a natural
disaster or a spike in global food or fuel prices. In the longer term, the drivers can be
development levels, demographics, or natural resource endowments. The desire to reduce
poverty might lead a low-income country to tilt spending toward primary health care, whereas in
an advanced economy, pension reforms might target looming long-term costs related to an aging
population. In an oil-producing country, policymakers might aim to better align fiscal policy with
broader macroeconomic developments by moderating procyclical spendingboth by limiting
bursts of spending when oil prices rise and by refraining from painful cuts when they drop.
Response to the global crisis

The global crisis that had its roots in the 2007 meltdown in the U.S. mortgage market is a good
case study in fiscal policy. The crisis hurt economies around the globe, with financial sector
difficulties and flagging confidence hitting private consumption, investment, and international
trade (all of which affect output, GDP). Governments responded by trying to boost activity
through two channels: automatic stabilizers and fiscal stimulusthat is, new discretionary
spending or tax cuts. Stabilizers go into effect as tax revenues and expenditure levels change and
do not depend on specific actions by the government. They operate in relation to the business
cycle. For instance, as output slows or falls, the amount of taxes collected declines because
corporate profits and taxpayers incomes fall, particularly under progressive tax structures where
higher-income earners fall into higher-tax-rate brackets. Unemployment benefits and other social
spending are also designed to rise during a downturn. These cyclical changes make fiscal policy
automatically expansionary during downturns and contractionary during upturns.
Automatic stabilizers are linked to the size of the government, and tend to be larger in advanced
economies. Where stabilizers are larger, there may be less need for stimulustax cuts, subsidies,
or public works programssince both approaches help to soften the effects of a downturn.

Indeed, during the recent crisis, countries with larger stabilizers tended to resort less to
discretionary measures. In addition, although discretionary measures can be tailored to
stabilization needs, automatic stabilizers are not subject to implementation lags as discretionary
measures often are. (It can take time, for example, to design, get approval for, and implement
new road projects.) Moreover, automatic stabilizersand their effectsare automatically
withdrawn as conditions improve.
Stimulus may be difficult to design and implement effectively and difficult to reverse when
conditions pick up. In many low-income and emerging market countries, however, institutional
limitations and narrow tax bases mean stabilizers are relatively weak. Even in countries with
larger stabilizers, there may be a pressing need to compensate for the loss of economic activity
and compelling reasons to target the governments crisis response to those most directly in need.
Fiscal ability to respond

The exact response ultimately depends on the fiscal space a government has available for new
spending initiatives or tax cutsthat is, its access to additional financing at a reasonable cost or
its ability to reorder its existing expenditures. Some governments were not in a position to
respond with stimulus, because their potential creditors believed additional spending and
borrowing would put too much pressure on inflation, foreign exchange reserves, or the exchange
rateor delay recovery by taking too many resources from the local private sector (also known
as crowding out). Creditors may also have doubted some governments ability to spend wisely, to
reverse stimulus once put in place, or to address long-standing concerns with underlying
structural weaknesses in public finances (such as chronically low tax revenues due to a poor tax
structure or evasion, weak control over the finances of local governments or state-owned
enterprises, or rising health costs and aging populations). For other governments, more severe
financing constraints have necessitated spending cuts as revenues decline (stabilizers
functioning). In countries with high inflation or external current account deficits, fiscal stimulus
is likely to be ineffective, and even undesirable.
The size, timing, composition, and duration of stimulus matter. Policymakers generally aim to
tailor the size of stimulus measures to their estimates of the size of the output gapthe
difference between expected output and what output would be if the economy were functioning
at full capacity. A measure of the effectiveness of the stimulusor, more precisely, how it affects
the growth of output (also known as the multiplier)is also needed. Multipliers tend to be larger
if there is less leakage (for example, only a small part of the stimulus is saved or spent on
imports), monetary conditions are accommodative (interest rates do not rise as a consequence of
the fiscal expansion and thereby counter its effects), and the countrys fiscal position after the
stimulus is viewed as sustainable. Multipliers can be small or even negative if the expansion
raises concerns about sustainability in the period immediately ahead or in the longer term, in
which case the private sector would likely counteract government intervention by increasing
savings or even moving money offshore, rather than investing or consuming. Multipliers also
tend to be higher for spending measures than for tax cuts or transfers and lower for small, open
economies (in both cases, because of the extent of leakages). As for composition, governments
face a trade-off in deciding between targeting stimulus to the poor, where the likelihood of full
spending and a strong economic effect is higher; funding capital investments, which may create

jobs and help bolster longer-term growth; or providing tax cuts that may encourage firms to take
on more workers or buy new capital equipment. In practice, governments have taken a
balanced approach with measures in all of these areas.
As for timing, it often takes awhile to implement spending measures (program or project design,
procurement, execution), and once in place, the measures may be in effect longer than needed.
However, if the downturn is expected to be prolonged (as was the recent crisis), concerns over
lags may be less pressing: some governments stressed the implementation of shovel-ready
projects that were already vetted and ready to go. For all these reasons, stimulus measures should
be timely, targeted, and temporaryquickly reversed once conditions improve.
Similarly, the responsiveness and scope of stabilizers can be enhancedfor instance, by a more
progressive tax system that taxes high-income households at a higher rate than lower-income
households. Transfer payments can also be explicitly linked to economic conditions (for instance,
unemployment rates or other labor market triggers). In some countries, fiscal rules aim to limit
the growth of spending during boom times, when revenue growthparticularly from natural
resourcesis high and constraints seem less binding. Elsewhere, formal review or expiration
(sunset) mechanisms for programs help to ensure that new initiatives do not outlive their initial
purpose. Finally, medium-term frameworks with comprehensive coverage and assessment of
revenues, expenditures, assets and liabilities, and risks help improve policymaking over the
business cycle.
Big deficits and rising public debt

Fiscal deficits and public debt ratios (the ratio of debt to GDP) have expanded sharply in many
countries because of the effects of the crisis on GDP and tax revenues as well as the cost of the
fiscal response to the crisis. Support and guarantees to financial and industrial sectors have added
to concerns about the financial health of governments. Many countries can afford to run
moderate fiscal deficits for extended periods, with domestic and international financial markets
and international and bilateral partners convinced of their ability to meet present and future
obligations. Deficits that grow too large and linger too long may, however, undermine that
confidence. Aware of these risks in the present crisis, the IMF in late 2008 and early 2009 called
on governments to establish a four-pronged fiscal policy strategy to help ensure solvency:
stimulus should not have permanent effects on deficits; medium-term frameworks should include
commitment to fiscal correction once conditions improve; structural reforms should be identified
and implemented to enhance growth; and countries facing medium- and long-term demographic
pressures should firmly commit to clear strategies for health care and pension reform. Even as
the worse effects of the crisis recede, fiscal challenges remain significant, particularly in
advanced economies in Europe and North America and this strategy remains as valid as ever.

IMF warns of new financial crisis if

interest rates rise
Fund says governments in emerging markets should prepare now for a new credit crunch because
of a 10-year corporate borrowing binge
Rising global interest rates could prompt a new credit crunch in emerging markets, as businesses
that have ridden the wave of cheap money to load up on debt are pushed into crisis, the
International Monetary Fund has said.
The debts of non-financial firms in emerging market economies quadrupled, from $4tn (2.6tn)
in 2004 to well over $18tn in 2014, according to the IMFs twice-yearly Global Financial
Stability Report.
This borrowing binge has taken business debt as a share of economic output from less than half,
in 2004, to almost 75%.
Chinas firms have led the spree, but businesses in other countries, including Turkey, Chile and
Brazil, have also ramped up their debts and could prove vulnerable as interest rates rise.
With the US Federal Reserve expected to raise interest rates in the coming months, the IMF
warns that emerging market governments should ready themselves for an increase in corporate
failures, as firms struggle to meet sharply higher borrowing costs.
That could create distress among the local banks who have bought much of this new debt,
causing them in turn to rein in lending, in a vicious cycle reminiscent of the credit crisis of
2008-09.
Shocks to the corporate sector could quickly spill over to the financial sector and generate a
vicious cycle as banks curtail lending. Decreased loan supply would then lower aggregate
demand and collateral values, further reducing access to finance and thereby economic activity,
and in turn, increasing losses to the financial sector, the IMF warns.
Its economists find that the sharp increase in borrowing has been driven largely by international
factors, including the historically low interest rates and quantitative easing unleashed by central

banks in the US, Japan and Europe, as they have sought to rekindle growth in the wake of the
sub-prime crisis.
Monetary policy has been exceptionally accommodative across major advanced economies.
Firms in emerging markets have faced greater incentives and opportunities to increase leverage
as a result of the ensuing unusually favourable global financial conditions, the IMF says.
It also warns that borrowing appears to have risen fastest in sectors that would be most
vulnerable to an economic downturn, including construction, and oil and gas; and that some of
the heaviest borrowers have taken out debts in foreign currencies, which would leave them
doubly exposed if rising rates coincide with a depreciation.
Emerging markets must prepare for the adverse domestic stability implications of global
financial tightening, the IMF says.
The IMF published the warning as the worlds finance ministers and central bankers prepare to
gather for its annual meeting in Lima, Peru, next month.
Its analysis underscores the backlash that the Federal Reserve could face if it starts to tighten
policy and unleashes chaos in emerging economies.
Janet Yellen, the Feds chair, made clear that its recent decision to delay a long-planned increase
in rates was a result of the turmoil in emerging markets, in particular China. The IMF has called
on the Fed to delay policy lift-off, because of the potential impact on other economies.
Andy Haldane, the Bank of Englands chief economist, warned recently that the world could be
facing the latest leg in a financial crisis trilogy, that began in US mortgage markets, flared up
again in the eurozone, and has now shifted to emerging markets.
In a separate chapter of the Global Financial Stability Report, also published on Tuesday, the
IMF urged regulators to take action to reduce the risks that liquidity in financial markets could
evaporate, creating lurching swings in prices.
Since market liquidity is prone to suddenly drying up, policymakers should adopt pre-emptive
strategies to cope with such shifts in market liquidity, it says.
Some investors have been warning that changes in regulation, and in the structure of markets
since the global credit crisis, have increased the danger that markets could seize up in future.
In recent years, factors such as investors higher risk appetite and low interest rates have been
masking growing underlying fragilities in market liquidity, said Gaston Gelos, chief of the
global financial stability analysis division at the IMF.

He called for regulators to continue reforms to boost liquidity, such as enforcing equal access to
electronic trading platforms; but he warned that central banks and financial supervisors need to
be prepared for episodes of liquidity breakdowns.