Even if policymakers are relatively indifferent about the level of inflation within a comfort zone, research on the optimal design of monetary policy indicates that they shouldn't be: The central bank should actively seek to bring inflation back to the midpoint of its comfort zone, thereby minimizing the probability that inflation wanders outside the boundaries of that zone. In effect, the optimal policy strategy takes into account the benefits of insurance, and hence the midpoint of the zone becomes the point objective for inflation

Furthermore, confusion about inflation objectives might make it harder for a committee of policymakers to decide on the appropriate course of monetary policy. When one member advocates a more accommodative policy stance than other members, it may not be clear whether that reflects a more negative outlook for the economy or a greater willingness to allow inflation to settle in or near the top of the comfort zone. Thus, the comfort zone approach might lead to greater confusion in policy deliberations and hence produce a less effective decisionmaking process.

With regard to financial conditions more broadly, markets have not yet stabilized. Although financial instability originated in the residential mortgage-backed securities market, it has spread to affect a variety of credit markets via market linkages or institutional interdependencies. The experience has been traumatic, at times generating primal emotions. Market volatility has been driven by fear, distrust, and flight to safety. I emphasize this point because financial system stability is a central focus of Fed policy at the moment.

At the same time, inflation has become a more prominent concern.

In such cases, policy may take out insurance against these adverse risks and move the policy rate more than the usual prescriptions of the Taylor Rule. If the downside spillovers do materialize, then policy may have to be recalibrated further.

Part of our job as a central bank is to properly price these insurance premiums against the achievement of maximum employment and price stability over the medium term. And if further policy adjustments become necessary, they need to take into account the insurance that is already in place. In addition, when risks subside, promptly moving policy to appropriate levels will reiterate and reinforce our commitment to our fundamental policy goals.

Everyone agrees that it is long-term interest rates and mortgages that ultimately determine the demand for homes and hence the price. What became clear in the early part of this decade is that central banks, not only the Fed, . . . began to lose control over long-term interest rates. That was a major issue in 2004. The Federal Reserve started to raise short-term rates very significantly and found that instead of long-term rates rising with them in unison, it failed . . . I call it the conundrum. What the conundrum was was evidence that long-term interest rates were being dominated by long-term forces.

On the power of the Fed

There was a real serious concern about deflation. If you look at the notes of the Open Market Committee, the pressures were to go lower than 1 percent. There were no dissents. The only dissents were that we should go lower. People don't remember that period. [People thought there was] a threat to American stability because it looked as though we were replicating much of what Japan had done when it had fallen into a corrosive deflation.

Our forecast at the time said the chances were low, but the consequences to the country would have been so great that taking out insurance was by far the most sensible policy. I still believe that today.

On the decision to keep the federal funds rate at 1 percent from mid-2003 to mid-2004
 

I think I would be a fool not to say that when we get through this and when this mess is cleaned up, I'll have to think about what we went through.

From Q&A as reported by Market News International, on the relationship between monetary policy and asset prices.

Successful coordination in the provision of liquidity raises the question of whether appreciable gains might be had from coordination of monetary policies more generally. John is skeptical, and so am I. Gains from formal policy coordination never seemed large, and it is not clear that globalization has increased them appreciably. Policies agreed to under one set of circumstances may no longer be appropriate when circumstances change, as they inevitably will. Monetary policy should be able to adjust quickly to such changes; agreements that must be renegotiated can tie policymakers' hands. That does not mean that no circumstances exist in which coordinated monetary policy actions would be beneficial, but such circumstances are probably quite rare. Ultimately, global stability depends on good performance in individual countries, and the record of recent decades suggests that, in general, good performance is most readily achieved when central banks focus on their own mandates for domestic price stability and growth.

The issue that is extremely important is the preservation and commitment to a nominal [inflation] anchor. ... I see no tendency from central banks to want to deviate from this world of price stability ... A commitment to keeping inflation low and stable is something I don't see any wavering from in the world, which is the key. But we have to be vigilant.

From audience Q&A as reported by Reuters and Market News International

Fisher said he disagreed with the view the Fed had been "pandering" to markets in cutting rates aggressively.

"We took the actions that were taken as a group in response to what we viewed as the prospective weakening of the US economy and were driven by economic considerations. In terms of the actions we take on the Fed Funds rate there are other tools we can use, for example the term auction facility addresses liquidity needs, and we will continue to develop our tool box," he said.

"My sense, from my personal perspective, is that 3.5% was a sufficient level. We have moved very quickly to that level. Going further to 3% might create a bit of a counter-reaction. In fact, it did create a bit of a counter reaction - that is long term rates went up including on jumbo mortgages and, of course, the dollar has weakened," he said [when asked about his January dissent].
...
"I trust in the wisdom of my colleagues."

As reported by Market News International

I think it is very important ... for central bankers to do their best in keeping a steady hand under emergency circumstance. I am not saying this is an emergency circumstance but when things are volatile, it's important that central bankers be deliberate.

As reported by Market News International

In the current situation, monetary stimulus is facing significant headwinds from the weak condition of some of the interest-sensitive sectors, as well as restrictions in credit availability and a repricing of risk. In these circumstances, a central bank may have to ease policy more in order to achieve its desired effect.

[H]istorically, I believe it has been more difficult to remove policy accommodation in a timely fashion, which may have consequences for a central bank's long-term inflation objective.

[T]here is a risk that an extended period of low interest rates may distort long-run investment decisions; lead to a search for yield that results in excessive risk-taking; and contribute to the development of asset price bubbles.

In my view, these limitations are significant, and they lead me to believe that we should look to fiscal policy to play a more important role in responding to the spillover from a financial crisis. In contrast to monetary policy, fiscal policy can work effectively even when the financial system is impaired, and its effects are felt more broadly across the economy. My own view is that monetary policy may be a good first line of defense, but should not be relied upon too heavily for too long. Of course, we would have to rely less on monetary policy to respond to financial crises if we could, instead, take measures that would reduce the likelihood or severity of financial crises.