Monetary policy may differ depending on how the market is functioning, but if the Fed moves to stem a disruption, it must be ready “to take back some of that insurance” when recovery occurs, Federal Reserve Board governor Frederic S. Mishkin said Friday.
“The monetary policy that is appropriate during an episode of financial market disruption is likely to be quite different than in times of normal market functioning,” Mishkin said, according to prepared text released by the Fed.
“When financial markets experience a significant disruption, a systematic approach to risk management requires policymakers to be preemptive in responding to the macroeconomic implications of incoming financial market information, and decisive actions may be required to reduce the likelihood of an adverse feedback loop,” he said. “The central bank also needs to exhibit flexibility — that is, less inertia than would otherwise be typical — not only in moving decisively to reduce downside risks arising from a financial market disruption, but also in being prepared to take back some of that insurance in response to a recovery in financial markets or an upward shift in inflation risks.”
