Even though this path is shallow relative to previous tightening cycles, the median federal funds rate path of FOMC participants in the December Summary of Economic Projections (SEP) is well above the path implied by the federal funds futures market. Should this be a concern? Does this imply that there is a significant risk of an abrupt future spike in short- and long-term interest rates as market rates realign to levels more consistent with the median FOMC participants’ projections?

I don’t think so for several reasons. First, the SEP projections are modal forecasts—that is, what the participants believe is most likely to happen—whereas those embodied in market prices are a mean—that is, an average across all possible outcomes. One might reasonably expect these modal forecasts to be above the mean when inflation is low and the economic outlook is uncertain. Second, the median federal funds rate forecasts for primary dealers and for buyside participants surveyed just prior to the December FOMC meeting differed only marginally from the December SEP median projections of FOMC participants. This reinforces my judgment that the difference between means and modes is the main factor for the gap between the federal funds futures market and the SEP paths. Third, the differences between the interest rates implied by futures markets and the SEP have been quite small at shorter-term time horizons, such as the end of 2016, and grow much larger as the time horizon lengthens. I think this is noteworthy because the confidence one has at longer horizons should be much lower than at shorter horizons.

One thing that we have right now is the so-called dot-plot. So there's interest rate projections from all the 17 participants on the FOMC for 2014, '15, '16, '17. And people are interested in those numbers as a guide to when the Fed is actually likely to lift off.

My own personal opinion is that I think people shouldn't overweight the value of those dots, especially as you get out further in terms of the time horizon. I have a dot for '15, '16 and '17, but if I told you what my confidence and around that dot was you would probably not put a lot of weight on where that dot is precisely located. So I think the subcommittee I think will look at the issue.

Are there improvements that can be made in terms of how we communicate the summary of economics projections information? Obviously if it was obvious that there was a better way of doing it I'm sure we would be doing it already. So I don't think that people should be sort of waiting for big changes, but if we can find ways to that improve the communication process then certainly we'll go forward with that.

Well you could try to present baseline and alternative {fed funds} forecasts, but I think again I think the problem with that is that it overstates the degree of certainty about that path relative to that forecast. I think that the reality is one of the problems of the summary of economic projections is that it's really focused on modes, what's people's modal outlook for interest rates. And the reality is highly likely that the modes will not actually be realized.

So I think the second problem of course you have is that and we have 17 members right now of the - of participants of the FOMC. A lot of them are all over the country. And so the ability to get all this group together to agree on a precise path of interest rates under the baseline versus on other forecasts I think that would be actually quite difficult to do in a very timely way.

So I think central banks around the world that have actually published forecasts typically they have a monetary policy committee that's quite small. And usually it's located in one place.

Short-term interest-rate markets have for months priced in a slower tempo of increases than policy makers themselves forecast. Thats risky because the misalignment, a bet against a rate path that the central bank alone controls, could lead to volatility if traders have to adjust rapidly, Lacker said.

When there is that kind of gap, it gets your attention, Lacker, a consistent critic of the Feds record easing who votes on policy next year, said in an Aug. 1 interview at his Richmond office overlooking the James River. It wouldnt be good for it to be closed with great rapidity.

Investors may also be giving too much credence to a phrase in the Feds statement that even after employment and inflation are close to its goals, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the committee views as normal in the longer run.

They may be placing more weight on that than I think it deserves, said Lacker, who dissented against his colleagues at every meeting of the FOMC in 2012. They may think we have more conviction about that than we do.

In response to a question about the upward drift in the FOMC’s dot chart:

Well, I -- to my mind, there is only very limited upward drift. You know, the committee -- I think the committee in assessing the economy, if you compared today's assessment with December's, is virtually identical. Almost nothing has changed in the overall committee assessment of the outlook. As I mentioned, unemployment has come down. The labor market more broadly I think has improved a little more than we might have expected. And that slightly more rapid improvement in the unemployment picture might explain -- I can't speak for why people write down what they do -- but a little bit of the upward shift in those dots.
But more generally, I think that one should not look to the dot- plot, so to speak, as the primary way in which the committee wants to or is speaking about policies to the public at large. The FOMC statement is the device that the committee as a policy-making group uses to express its -- its opinions. And we have expressed a number of opinions about the likely path of rates.

BACHUS: The FOMC participants have stated, some of them, that their assessment of the longer run normal level of the fed fund rate has been lowered. Do you agree with that?

BERNANKE: Well, a rough rule of thumb is that long-term interest rates are roughly equal to the inflation rate plus the growth rate of the economy. The inflation rate, we're looking to get to 2 percent. To the extent that in the aftermath of the crisis and from other reasons that the economy has a somewhat lower real growth rate going forward, that would imply a lower equilibrium interest rate as well.

I was … opposed to stretching this out, putting the late 2014 date in the statement. I am very disappointed with this. I thought it was an opportunity for the committee to get away from calendar dates and the committee didn't do that. I would have defected on this issue. I've been vocal about this before. I think the chairman correctly said that we can't forecast accurately that far ahead. He said it in a very - very funny, actually.

My only guess is that we will have to move before but I just got done saying we tried to forecast, so - you'd be better off to say wait and see, but I put it in 2013 so - but that's just my best guess.

You have to get started on normalizing rates at some point and it's not that once you move off zero and you go to 50 basis points, or 75 basis points, you don't exactly have a tight monetary policy. You still have extremely low interest rates by any normal metric and so it takes a while to turn the ship. So, to say that you're going to wait for such a long time to come off zero seems to me to be inconsistent with the way that the committee has behaved in the past and wanted to get going on the process, understanding that you're still providing a lot of accommodation to the economy even when it's only 1 percent or 1.5 percent, or 2 percent.

My predecessor at the helm of the Dallas Fed, Bob McTeer, used to say, “The first rule of forecasting should be ‘don’t do it.’” The second rule, he would add is, “If you give a number, don’t give a date.” But given the assignment to venture a vision as to where the fed funds rate would be in each of the next three years and over “the longer run” to the nearest one-quarter of one percent, the 17 intrepid souls of the FOMC, including yours truly, did so. Only three envisioned that the fed funds rate might rise from current levels by year-end 2012; six saw it doing so by year-end 2013 and 11 by year-end 2014. Over the longer term, the 17 members envisioned a funds rate of between 3¾ and 4½ percent.

Bob McTeer’s admonishment clearly does not resonate with the FOMC. And yet I would caution, again, that at best, the economic forecasts and interest-rate projections of the FOMC are ultimately pure guesses. I have yet to find a single economist on this planet who consistently forecasts the economy accurately, let alone projects with any precision the interest rate on overnight funds one year out or far into the future. If you examine the record of the Blue Chip economists or even of our superb Federal Reserve staff, you will find confirmation of a paucity of reliable economic forecasts.

My preferred policy would be one where we are even clearer in what our intentions are on the federal funds rate and monetary policy.

STEVE LIESMAN: Let's talk about these interest rate forecasts that you're now publishing. There seems to be a lot of-- there's some disagreement between the statement which says that you expect it to remain-- low through mid-- through late 2014 and the forecast that came out later in the day. Which should the markets believe?

CHARLES PLOSSER: Well, I think two things. One is that interest rate projections in the SEP are not forecasts, people have to remember that they are projections of what each individual committee member thinks is appropriate policy, that is what should policy be, not what will policy be. And so they're making individual assumptions about the path of policy. And that reflects how over time that will reflect how policy evolves and the views of how the committee evolves.

In terms of the statement, the statement is a statement of policy, a statement by the committee. And it's reinforced by a vote of the FOMC. There's information content in both of those. If you look at the SEP projections of interest rates in the policy decisions you will see that there's a huge mass of people in and around 2014 and some beyond and some people sooner.

So it's not clear that the statement didn't reflect the modal view of what the committee and participants thought. But they are different exercises and so I think it's very important we understand the differences in our projections and the policy statement.

STEVE LIESMAN: If you watched the way the market reacted, they thought great at 12:30 when you said you expected it to remain low through 2014. But then we learned at 2:00 that there's not very much support for that later date on the board. Which is the right one?

CHARLES PLOSSER: Well, I think the fact of the matter is the statement's pretty clear although not as clear as it could be, that this is two-thousand-- late 2014 is contingent, it is conditional on the evolutions of the economy. Now, I think that we don't make that clear enough.

A lot of people have been reading the statement as if it was a commitment and it is not a commitment. And when you look at the SEP projections you-- it's pretty clear that everybody doesn't agree that this is a firm commitment. So it's not a commitment and it shouldn't be interpreted as a commitment. It's a conditional statement and I think revealing the projections in the SEP makes that even clearer that this is really not a commitment.

-------------------------------------------------------------------------------------

STEVE LIESMAN: So Charlie, let's go back over this idea. If there's a conflict, and there was, but if there's a conflict between this policy statement of the calendar date and the SEP which one prevails?

CHARLES PLOSSER: Well, it's not clear that you want one dominate the other. One, the SEP projections are in fact the range of views of the committee. If you look at the policy statement of late 2014 and you looked at the modal value of the range of views it was probably pretty close. The idea is for them not to be.

You would think that the range of views would be captured in... I think having a calendar date in the statement is bad policy, I've said that over and over again. And by getting rid of the calendar date in the policy statement-- because I think it's bad communication, I think the SEP projections speak for themselves, they give you the view about where people currently stand.

What's important about that is that you will see over time when the next quarter comes and we do another SEP projections and you have the appropriate policy rates in there, you may very well see that change. It may go out further or it may actually begin to pull in. That's really a more informative way to think about forward guidance as we call it, from my perspective.

At the recent meeting that concluded on January 25, this guidance stated that the Committee currently anticipates that 'economic conditions are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.'

"I dissented because I do not believe economic conditions are likely to warrant an exceptionally low federal funds rate for so long. I expect that as economic expansion continues, even if only at a moderate pace, the federal funds rate will need to rise in order to prevent the emergence of inflationary pressures. This increase in interest rates is likely to be necessary before late 2014.

"In addition, the Summary of Economic Projections (SEP) now contains detailed information on the forecasts of Federal Reserve governors and Reserve Bank presidents for the evolution of economic conditions and the federal funds rate under appropriate policy. My dissent also reflected the view that statements about the future path of interest rates are inherently forecasts and are therefore better addressed in the SEP than in the Committee's policy statement.

Robin Harding:  Mr. Chairman, while I look at these forecasts for 2014, the median of the forecast is I think 0.75 and the mean is 1.12 percent. If I were to draw a line for these--these dots, how should I draw it so I best understand what the FOMC is most likely to do?..

Chairman Bernanke:  Well, again, I want to first I want to emphasize that there is no mechanical relationship between these projections and the outcomes of the FOMC decisions. Of course, they're a big input into those decisions but it's a collective decision. If you want to draw lines, my guess I would--I guess my suggestion would be to look at the median, the middle of the--of the distribution because we do have a democratic process in the Committee, and so the median will give you some sense of where the weight balances against the higher-- in favor of higher or lower--lower rates. Again, we did note that in support of our assessment of late 2014, which is a Committee decision and of course there was a 9 to 1 vote in favor of that, but that is supported by the observation that 11 of the 17 participants expect the funds rate at the end of 2014 to be 1 percent or less. And so presumably the take-off would not be much earlier than that.

Mr. Plosser said the new disclosures aren’t really forecasts, in the way that an economist might forecast where he thinks unemployment or inflation will be in 2012 or 2013. As Mr. Plosser described it, the interest rate numbers the Fed is making public are projections by policy makers of where they think interest rates should be, not forecasts of where they will be.

...

The nuance might be especially relevant for people like Mr. Plosser, who tend to be outside of the Fed consensus. The Fed has said it doesn’t expect to raise short-term interest rates until at least mid-2013. Mr. Plosser said he thinks it might need to raise rates sooner. He’s not going to write down what he thinks the Fed will do. He’s going to write down what he thinks it should do.

He adds that he thinks rates should be going up, “sooner than some of my colleagues do.”

...

Moreover, Mr. Plosser says the public shouldn’t look at these numbers as a commitment or a decision about interest rates, or as something that will be static. As views change about how the economy works and how it is performing, the interest rate projections will shift around, capturing the changing views inside the Fed’s policy making committee.

“The value is going to come as we watch these views change,” Mr. Plosser says.