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Implications of Fiscal Austerity
for U.S. Monetary Policy
Eric S. Rosengren
President & CEO
Federal Reserve Bank of Boston
GIC Central Banking Conference
Milan, Italy
May 16, 2013
EMBARGOED UNTIL THURSDAY, MAY 16, 2013 AT 7:45 A.M. U.S. EASTERN TIME AND THURSDAY, MAY 16, 2013 AT 1:45 P.M. MILAN, ITALY TIME; OR UPON DELIVERY
Implications of Fiscal Austerity
 Fiscal matters are the subject of intense
debate
 Many developed economies have adopted
fiscal austerity
 The U.S. reduced real government spending
and government employment even before
recent payroll tax increase and sequester
2
Implications of Fiscal Austerity…Continued
 Long-term budget sustainability is critical,
but timing is important
 While fiscal policy is only one consideration,
more restrictive near-term fiscal policy will
delay when we achieve the Fed’s dual
mandate – currently the unemployment rate
is 7.5 percent and PCE inflation is about 1
percent
3
Implications of Tepid Recovery
 Some call degree of monetary accommodation
excessive, but based on outcomes, one could
argue we have not been sufficiently
accommodative (inflation is below target,
unemployment is above the “full-employment”
level)
 Part of the “miss” on inflation and unemployment
is the emergence of more fiscal restraint than
might have been expected (e.g., the sequester
became reality)
4
Implications of Tepid Recovery…Continued
 Monetary policy has been effective in
generating growth in interest-sensitive
sectors and has in part offset the
contractionary effects of headwinds – fiscal,
financial, and otherwise
 Overall GDP growth during the recovery
has been slow. Looking at the components
of GDP reveals differences and provides
perspective
5
Figure 1
Growth in Real Final Sales
to Private Domestic Purchasers
2007:Q1 - 2013:Q1
Percent Change at Annual Rate
6
1
4
1
2
0
1
-2
0
-4
-6
0
-8
0
-10
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
2013:Q1
Recession
Source: BEA, NBER / Haver Analytics
6
Figure 2
Growth in Real Final Sales to
All Domestic and Private Domestic Purchasers
2007:Q1 - 2013:Q1
Percent Change at Annual Rate
6
1
4
1
2
0
1
-2
0
-4
-6
Recession
To Private Domestic Purchasers
To All Domestic Purchasers
-8
-10
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
0
0
2013:Q1
Recession
Source: BEA, NBER / Haver Analytics
7
Figure 3
Growth in Real Government Spending
2007:Q1 - 2013:Q1
Percent Change at Annual Rate
12
12.0
10.0
8.0
8
6.0
4.0
4
2.0
0.0
0
-2.0
-4.0
-4
-6.0
-8.0
-8
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
2013:Q1
Recession
Source: BEA, NBER / Haver Analytics
8
Figure 4
Contribution of Real Government Spending
to Real GDP Growth
2007:Q1 - 2013:Q1
Percent Change at Annual Rate
2.0
2.00
1.0
1.00
0.0
0.00
-1.0
-1.00
-2.00
-2.0
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
2013:Q1
Recession
Source: BEA, NBER / Haver Analytics
9
Figure 5
Growth in Real Government Spending by
Federal and State and Local Governments
2007:Q1 - 2013:Q1
Percent Change at Annual Rate
15
Series4
Federal
10
Series2
State and Local
15.0
10.0
5
5.0
0
0.0
-5
-5.0
-10.0
-10
-15.0
-15
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
2013:Q1
Recession
Source: BEA, NBER / Haver Analytics
10
Figure 6
Growth in Government Spending During
Current and Previous Three Recoveries
Index, Trough = 100
130
1982:Q4
1991:Q1
2001:Q4
120
2009:Q2
110
100
90
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
Quarters from Trough
Source: BEA, NBER / Haver Analytics
11
Figure 7
Nonfarm Payroll Employment Growth:
All Industries and Private Industries
2007:Q1 - 2013:Q1
Percent Change from Year Earlier
3
3.00
2
2.00
1
1.00
0
0.00
-1
-1.00
-2
-2.00
-3
-3.00
-4
-4.00
-5
Series4
Series3
Private Industries
All Industries
-6
2007:Q1
2008:Q1
2009:Q1
2010:Q1
2011:Q1
2012:Q1
-5.00
-6.00
2013:Q1
Recession
Source: BLS, NBER / Haver Analytics
12
Effects of Fiscal Restraint
 Fiscal restraint has been notable, and has
factored into the pace of recovery
 Sectors that are sensitive to accommodative
monetary policy have responded
 Monetary policy has ameliorated, but not
fully offset, the impact of headwinds (fiscal
and otherwise)


2 percent real GDP growth
Only gradual improvement in labor markets
13
Figure 8
Inflation Rate: Change in Total and Core Personal
Consumption Expenditure (PCE) Price Indexes
January 2007 - March 2013
Percent Change from Year Earlier
5
1
4
1
PCE
3
Target (2%)
2
1
0
Core PCE
(Excluding Food and Energy)
0
1
0
-1
0
-2
Jan-2007
Jan-2008
Jan-2009
Jan-2010
Jan-2011
Jan-2012
Jan-2013
Recession
Source: BEA, NBER / Haver Analytics
14
Low Inflation
 The low inflation rate would actually be of
concern if the economy suffered a negative
shock
 Note the experience of Japan – not
addressing persistently low inflation can
cause deflation if a negative shock occurs
 Inflation expectations in the United States
remain stable – however there are risks to
persistently remaining below target
15
Figure 9
Three-Month Treasury Bill Yield Minus
Core PCE Inflation Rate
January 2007 - March 2013
Percent Change from Year Earlier
3
1
2
1
1
1
0
0
-1
0
0
-2
Jan-2007
Jan-2008
Jan-2009
Jan-2010
Jan-2011
Jan-2012
Jan-2013
Recession
Note: Core PCE Inflation Rate is the percent change in the Core PCE from one year earlier
Source: BEA, Federal Reserve Board, NBER / Haver Analytics
16
Figure 10
Central Bank Assets in the United States,
the United Kingdom and the Euro Area
December 2006 - April 2013
Index Level December 2006 = 100
600
United Kingdom
500
United States
Euro Area (17)
400
300
200
100
0
Dec-2006
Dec-2007
Dec-2008
Dec-2009
Dec-2010
Dec-2011
Source: Bank of England, European Central Bank, Federal Reserve Board / Haver Analytics
Dec-2012
17
LSAPs and Improving Economy
 Unemployment rate is currently 7.5 percent –
down from 7.8 percent last September
 Employment growth averaged over 200,000
jobs per month over the last three months
 But the employment-to-population ratio remains
low – so some of the improvement in the rate is
a result of workers leaving the labor force
 Need real GDP growth faster than the 2 percent
we have been averaging in order to get more
significant improvement in labor markets
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Figure 11
Growth in Real Government Spending in the
United States, the United Kingdom and the Euro Area
2010 - 2012
Percent Change from Year Earlier
3
2010:Q4
2011:Q4
2012:Q4
2
1
0
-1
-2
-3
United States
United Kingdom
Note: Includes only government consumption expenditures.
Source: BEA, Eurostat, Office for National Statistics (U.K.) / Haver Analytics
Euro Area (17)
19
Figure 12
Estimated General Government
Structural Budget Balance
2010 - 2013
Percent of Potential GDP
0
-3
-6
2010
2011
2012
2013 (Estimate)
-9
United States
United Kingdom
Euro Area (17)
Note: For the Euro area, 2012 is also based on estimates of the budget balance for some countries
Source: IMF, World Economic Outlook Database
20
Concluding Observations
 The economy continues to gradually improve
 Accommodative monetary policy has been
effective in interest-sensitive sectors, and
partially offset by headwinds
 Long-term sustainable fiscal policy is
important, but timing is an issue
 The timing and speed of restraint should
depend on how the economic recovery
progresses
21