Monday, April 17, 2006

FRB: Speech, Ferguson--Thoughts on Financial Stability and Central Banking--April 17, 2006

Fed Vice Chairman Roger Fergusons' remarks this morning are perfect for a Money and Banking or Financial Institutions class!

FRB: Speech, Ferguson--Thoughts on Financial Stability and Central Banking--April 17, 2006:

Some Highlights:

* "Few subjects are more important for central bankers than the efficiency and stability of our financial system....Ironically, our interest in financial stability seem to have increased in recent years even as real (that is, inflation-adjusted) variability in economic aggregates seems to have decreased. Since 1985, the volatility of real growth in gross domestic product (GDP) has been only about half of what it was during the preceding twenty-five years. In addition, as shown in a number of papers, the volatility of many components of GDP and of other measures of aggregate economic activity also declined sharply between these periods.

* "The source of the moderation in the real economy is unclear....The leading explanations of the moderation are that (1) economic shocks have been milder; (2) inventory management has improved; (3) financial innovations such as improved risk assessment and risk-based pricing have made credit more widely available, even during economic downturns; and (4) monetary policy has been better."

* "The first explanation--milder economic shocks--has seemed less persuasive following the events of the late 1990s and early 2000s. From the Asian financial crisis to the September 11 attacks to the corporate governance scandals to the surge in oil prices, powerful economic shocks have marked the past few years."

* "As for the second explanation--better inventory management--changes in inventory dynamics have indeed contributed significantly to the reduced volatility of GDP growth...."

* "Regarding the third explanation--better availability of credit--Karen Dynan, Doug Elmendorf and Dan Sichel, of the Board's staff, present evidence in a recent paper that financial innovation has been partly responsible for the reduced variability of real activity"

* As for the "fourth explanation, that monetary policy has been better. I think it has indeed been better. We are better at understanding how the economy operates (and therefore, at evaluating the appropriate stance of monetary policy) and we are more determined to pursue the goal of price stability. But secondarily, I think the greater dominance of market-based finance, combined with a greater transparency by the Federal Reserve, has made both the mechanism of monetary policy and the intentions of the central bank more understandable to market participants....The greater transparency of central banks also seems to have led to improved economic performance. Market expectations are more likely to remain anchored in the face of various shocks when investors can see more clearly that central bankers are committed to long-run objectives such as price stability and sustainable economic growth. This commitment feeds into the planning and execution of investments by firms and households."

Well worth reading! Even if you are not in a Money and Banking course! ;)

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