It would be greatly beneficial if the Administration and Congress could more effectively work together to craft a coherent fiscal policy. As I see it, this would consist of two elements—continued near-term fiscal support to underpin economic activity and long-term fiscal consolidation to ensure debt sustainability. Without action in Washington, fiscal policy will turn sharply restrictive in 2012—exerting a direct drag on real GDP growth of more than one percentage point. At the same time, the long-term path under current policy is unsustainable.

Let me be very clear that the Federal Reserve's monetary policy is highly accommodative now. We've brought rates close to zero. We have done $2 trillion worth of asset purchases. We have made commitments about rates. We've extended the maturity of our portfolio. So we've taken a lot of steps, including steps at the last two meetings. So we are being very aggressive in providing monetary accommodation.

I was asked before about conditions for further accommodation. Well, we are prepared to do that. And we will continue to observe how the economy evolves.  You know, what we have is a projection. There's a lot of uncertainty there. And so it'd be very important to see, you know, what actually happens in terms of financial market conditions and economic growth.

But we are prepared to take further action, and we've already taken quite a bit of action, but we are prepared to do more, and we have the tools to do more  if that's appropriate.

Again, while I do not shirk the responsibility of the Fed having to do what it can to meet its mandate, obviously a broad range of policies can affect growth and employment. And I hope that there will be a range of actions that will complement and supplement the Federal Reserve's efforts.

Complicating the fragility around monetary policy, fiscal policy as a pro-growth policy instrument also appears to be approaching its limit. The government’s stimulus efforts to support the economy, along with lower tax revenues, have resulted in historically large fiscal deficits and a very large debt level. Without a dramatic change, the deficit and the debt will only become more daunting with the rising cost of entitlement programs and likely higher interest rates.

In this particular case, when we were -- when we are making our projections, we had already taken into account most of what is in that package. I mean we had anticipated that the Bush tax cuts would most likely be extended, at least in large part. We had anticipated that the U.I. insurance would be extended, at least in large part.
The part of the package that was surprising to us, and which does create a little additional stimulus, is the payroll tax rebate. So we factor that into our analysis. And, of course, on the margin, we'll respond to the way that affects the outlook.   But it wasn't that we were surprised by this package. We expected a lot of it to happen, and that was already built into our forecast when we made our policy decisions.

In response to a question about how the December 2010 stimulus package had affected the monetary policy outlook

[T]o paraphrase the early 20th century progressive Clarence Day―the once-ubiquitous contributor to my favorite magazine, The New Yorker―“Too many (theorists) begin with a dislike of reality." The reality of fiscal and regulatory policy inhibiting the transmission mechanism of monetary policy is most definitely present and is vexing to monetary policy makers. It is indisputably a significant factor holding back the economic recovery.

[I]f fiscal and regulatory authorities are able to dispel the angst that businesses are reporting and put together a credible plan for deficit reduction that does not choke off growth, further accommodation might not even be needed. If job-creating businesses are more certain about future policy and are satisfactorily incentivized, they are more likely to take advantage of low interest rates, release the liquidity they are hoarding and invest it robustly in hiring and training a workforce that will propel the American economy to new levels of prosperity. This would render moot the argument for QE2, or a second round of quantitative easing. The key is to remove or reduce the tax and regulatory uncertainties that act as an impediment to businesses as they respond to increases in final demand. I think most all would consider this to be a far more desirable outcome than being saddled with a bloated Fed balance sheet.

In attempting to explain why he signed an open letter opposing the 2009 stimulus package

A No, in fact I didn't sign that with a view of being opposed to the stimulus. I viewed signing that as stating my opposition to the idea that we all agree that the stimulus was good.

Q You mean, you were opposed to this assumption that, "we're all Keynesians" now that we're in a severe recession?

A Yes. The idea that there is some kind of uniform agreement among economists that the stimulus was a good thing, or more specifically, would lead to higher output, I didn't view that as being a settled question within the academe.

Fortunately, most who are directly affected by job loss are eligible for the short-term income support of unemployment insurance. Benefits through that program have been extended three times since July 2008 and may be extended again.

For example, suppose the level of federal government purchases is increased permanently by 1 percent of gross domestic product (GDP). Under normal circumstances, the fiscal spending multiplier--that is, the percentage response of real GDP to the boost in government spending--starts out at about 1 but then quickly falls to zero as long-term interest rates rise so that private spending and exports decline. However, if financial market participants anticipate that the federal funds rate will remain at zero for an appreciable period of time following the hike in government spending, the simulated short-run fiscal multiplier rises to 1.3 for some time. Model simulations also indicate that the fiscal spending multiplier may rise even further--to around 2--if the fiscal stimulus is expected to be temporary and to last no longer than the period when monetary policy holds short-term interest rates at the zero lower bound.⁴

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Although any calculation of the effect of our asset purchases on the economy is highly uncertain, estimates from our models suggest that nominal GDP could be as much as $1 trillion higher over the next several years than it would be without the large-scale asset purchase program. Such stimulus would not only significantly improve the economic welfare of our nation's citizens, but also could provide the federal government with as much as about $175 billion in greater tax revenues than it would otherwise receive.

The recently enacted fiscal stimulus program is aimed in part at boosting economic growth, but I believe many popular accounts overstate the effects of fiscal policy actions. Keep in mind that today’s stimulus will have to be paid for at some point in the future, and the prospect of higher taxes can restrain activity as well. Moreover, some spending diverts workers and firms from other uses instead of drawing in unemployed resources. My sense is that the stimulus is likely to have only a marginal effect on the broad contours of the economic recovery.

On the fiscal side, the stimulus package passed by Congress in February will provide an important economic shot in the arm. While the program does not appear large enough to solve the economy’s problems on its own, the support it will provide to aggregate demand is significant and helpful. We will likely begin seeing its effects on the economy this quarter.

It is very important to note that the largest components of the expansion of the Federal Reserve balance sheet are likely to become unappealing to market participants as financial conditions improve and interest rate spreads decline.  Thus, much of the Fed’s balance-sheet expansion should be reversed as we see the return of more normal trading.

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(T)he Federal Reserve programs I have described today are intended to reduce the unusually large spreads created by financial disruptions, so that the cost of credit for a variety of borrowers returns to the level we would expect with more normalized functioning of credit markets.  The Federal Reserve’s recent monetary policy actions, combined with the fiscal stimulus package that the government recently enacted, should in my view help pull the economy out of the severe recession we have been experiencing.

[F]iscal actions are unlikely to promote a lasting recovery unless they are accompanied by strong measures to further stabilize and strengthen the financial system.  History demonstrates conclusively that a modern economy cannot grow if its financial system is not operating effectively...

...Consequently, more capital injections and guarantees may become necessary to ensure stability and the normalization of credit markets.  A continuing barrier to private investment in financial institutions is the large quantity of troubled, hard-to-value assets that remain on institutions' balance sheets.  The presence of these assets significantly increases uncertainty about the underlying value of these institutions and may inhibit both new private investment and new lending.  Should the Treasury decide to supplement injections of capital by removing troubled assets from institutions' balance sheets, as was initially proposed for the U.S. financial rescue plan, several approaches might be considered.  Public purchases of troubled assets are one possibility.  Another is to provide asset guarantees, under which the government would agree to absorb, presumably in exchange for warrants or some other form of compensation, part of the prospective losses on specified portfolios of troubled assets held by banks.  Yet another approach would be to set up and capitalize so-called bad banks, which would purchase assets from financial institutions in exchange for cash and equity in the bad bank.  These methods are similar from an economic perspective, though they would have somewhat different operational and accounting implications. 

A critical element affecting the recovery in 2009 will be the introduction of additional fiscal stimulus into the economy.
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For the moment, putting our economy back on its feet is the priority, and with the monetary and fiscal actions that are underway, we should see improvement as we enter the second half of 2009.

I support Marty [Feldstein]'s conclusion that there is an exceptionally strong case for substantial fiscal stimulus over the next few years. In ordinary circumstances, there are good reasons why monetary, rather than fiscal policy, should be used for stabilization purposes. But these are exceptional circumstances, and fiscal policy can help get the economy going.

(P)ublic policy responses have increasingly moved toward fiscal interventions. To date, these have mostly been aimed at improving market functioning: the Treasury's TARP program, FDIC guarantees, and the Hope for Homeowners Act, and other programs to re-work mortgages. Looking ahead, we expect large amounts of more traditional types of fiscal stimulus to increase aggregate demand. I believe a big stimulus is appropriate. But it is also sobering to be deploying large amounts of tax-payer funds at a time when our fiscal balance sheet is already coming under significant stress