It is well known and widely understood that, over the medium to long run, inflation reflects the growth rate of money. The current environment of exceptionally low short-term nominal interest rates does not prevent a central bank from increasing the money supply. In this sense, stabilization policy goals can be accomplished through influence on the expected rate of inflation.

...In the United States, the size of the monetary base doubled over a four-month period beginning in September 2008. This increase is astonishingly large. However, the increase in the base is in part a byproduct of Federal Reserve programs to assist credit markets and carry out its lender-of-last-resort function...  Temporary increases in the monetary base—here one day, gone the next—would not be expected to have an important influence on the rate of inflation. Therefore, we shall have to segregate the temporary increases in the monetary base associated with lender-of-last-resort programs from the more persistent increases in the monetary base associated with outright purchases of Treasury securities, agency mortgage-backed securities and agency debt. It is the persistent increases in the monetary base that should properly be expected to influence the rate of inflation and therefore have an influence on inflation expectations and real interest rates.

One way of providing a credible nominal anchor for the economy is to set quantitative targets for monetary policy, beginning with the growth rate of the monetary base. This has several advantages. First and foremost, the monetary base is relatively easy to understand, fostering better communication about the thrust of policy. Second, we can be reasonably certain that sustained rapid expansion of the monetary base will be sufficient to head off any sustained deflation.

Asked if it's tax money the Fed is spending, Bernanke said, "It's not tax money. The banks have accounts with the Fed, much the same way that you have an account in a commercial bank. So, to lend to a bank, we simply use the computer to mark up the size of the account that they have with the Fed. It's much more akin to printing money than it is to borrowing."

"You've been printing money?" Pelley asked.

"Well, effectively," Bernanke said. "And we need to do that, because our economy is very weak and inflation is very low. When the economy begins to recover, that will be the time that we need to unwind those programs, raise interest rates, reduce the money supply, and make sure that we have a recovery that does not involve inflation."

Click here for Bernanke's revised views in 2010

Well, I think you have to solve the problem you've got.  And the problem we've got is not a lack of liquidity or a lack of purchases of Treasuries.  The problem we've got is that so many of our critical credit markets are not functioning properly. The securitization market's not functioning, the mortgage market. If we want to help the economy grow again, we got to get those markets working.

The programs we've done are not credit allocation, because they're very broad-based. The TALF is addressing a wide range of assets and we're leaving to the private sector the decision to which assets to bring to the TALF.  The mortgage market is a very broad-based market, and it affects the whole economy. So I -- I think, and -- and as far as getting out of it is concerned, I already discussed earlier the unwinding process. I think we'll be able to do that.

So I think you have to solve the problem you've got, not the problem you haven't got.

In response to a question about why Bernanke had voted not to buy Treasuries and pursue a quantitative easing at the January FOMC meeting.

Even though the conventional measure of the stance of monetary policy is the central bank’s interest rate target, monetary policy fundamentally is always about the amount of monetary liabilities issued by the central bank – also known as the “monetary base.” After all, hitting an interest rate target requires varying the quantity of central bank money, reducing the supply to raise rates and increasing the supply to reduce rates. Even when the policy rate has been driven down to zero, central banks can still dictate the supply of central bank money. And changes in the monetary base can still provide economic stimulus. Even if the funds rate does not change in response to an increase in the monetary base, some other rates of return must change to induce banks to voluntarily hold the additional supply of bank reserves.

Eventually economic conditions will improve, demand for excess reserves will fall, and in order to maintain price stability, the Fed will have to begin withdrawing the extraordinarily large supply of liquidity with which it has flooded the market. Under normal operating procedures, this isn't a problem, as the Fed holdings are mainly short-term Treasuries, which can be liquidated to reduce reserves and increase interest rates.

To further ease financial conditions, beyond what can be attained by reducing short-term interest rates, the Federal Reserve has taken additional steps to improve the functioning of credit markets and to increase the supply of credit to households and businesses--a policy strategy that I have called "credit easing." In the first portion of my remarks, I will briefly outline the three principal approaches to easing credit that we have undertaken, over and above cutting the short-term interest rate, and assess their effectiveness to date.

...

The three sets of policy tools I have focused on today--lending to financial institutions, providing liquidity directly to key credit markets, and buying longer-term securities--each represents a use of the asset side of the Fed's balance sheet...

[W]hile the monetary base has expanded at an extraordinarily fast pace during the fall and winter, much of that expansion has been closely related to the Fed’s lender-of-last-resort function, and cannot be counted on to keep expectations of disinflation and deflation at bay. Because of this, the Fed needs a more systematic method of keeping the persistent component of monetary base growth rates elevated in order to combat the risk of a deflationary trap.

…

“As I have discussed, the Fed’s balance sheet has grown at an astounding rate since September of last year, and the monetary base has more than doubled. But the new, temporary, lender-of-last-resort programs are blurring the meaning of this picture. A temporary increase in the monetary base, by itself, would not normally be considered inflationary. The increase would have to be expected to be sustained in the future in order to have an impact. Much, but not all, of the recent increase in the balance sheet can reasonably be viewed as temporary. The outright purchases of agency debt and MBS are likely to be more persistent, however, and it is these purchases that may provide enough expansion in the monetary base to offset the risk of further disinflation and possible deflation. The quantitative effects of policy actions in this new environment are more uncertain than normal, but nevertheless these less-conventional policies can have every bit as powerful an impact on the economy as changes in the intended federal funds rate.

The Federal Reserve's approach to supporting credit markets is conceptually distinct from quantitative easing (QE), the policy approach used by the Bank of Japan from 2001 to 2006.  Our approach--which could be described as "credit easing"--resembles quantitative easing in one respect:  It involves an expansion of the central bank's balance sheet.  However, in a pure QE regime, the focus of policy is the quantity of bank reserves, which are liabilities of the central bank; the composition of loans and securities on the asset side of the central bank's balance sheet is incidental.  Indeed, although the Bank of Japan's policy approach during the QE period was quite multifaceted, the overall stance of its policy was gauged primarily in terms of its target for bank reserves.  In contrast, the Federal Reserve's credit easing approach focuses on the mix of loans and securities that it holds and on how this composition of assets affects credit conditions for households and businesses.  This difference does not reflect any doctrinal disagreement with the Japanese approach, but rather the differences in financial and economic conditions between the two episodes...

The stimulative effect of the Federal Reserve's credit easing policies depends sensitively on the particular mix of lending programs and securities purchases that it undertakes...  Because various types of lending have heterogeneous effects, the stance of Fed policy in the current regime--in contrast to a QE regime--is not easily summarized by a single number, such as the quantity of excess reserves or the size of the monetary base.  In addition, the usage of Federal Reserve credit is determined in large part by borrower needs and thus will tend to increase when market conditions worsen and decline when market conditions improve.  Setting a target for the size of the Federal Reserve's balance sheet, as in a QE regime, could thus have the perverse effect of forcing the Fed to tighten the terms and availability of its lending at times when market conditions were worsening, and vice versa.

Going forward, asset purchases and lending programs could be expanded and extended to additional sectors impacted by the credit crunch. As for the comparison to Japan's experience, to my mind, the differences outweigh the similarities. Roughly speaking, the Fed is focused on the potential for targeted programs on the "asset side" of its balance sheet to improve credit flows in specific impaired markets, whereas the Bank of Japan was primarily focused on the potential for an expansion of the total quantity of its liabilities—the excess reserves of the banking system—to spur additional bank lending.

Evans said that based on the outlook for rising unemployment, falling industrial production and a wider output gap, economic models suggest rates should be below zero.

"If it were not constrained by zero, those models would want to push it below zero, but that's not possible," Evans told reporters after a panel at the American Economic Association's meeting in San Francisco.

Quantitative easing, a way to flood the banking system with large amounts of money, "is a way to mimic below-zero rates and provide support to the economy," he said.

As reprted by Reuters.

You will note that the emphasis of our activities has been on expanding the asset side of our balance sheet—the left side, which registers the securities we hold, the loans we make, the value of our swap lines and the credit facilities we have created. We feel this is the correct side to emphasize. The right side of our balance sheet records our holdings of banks’ balances, Federal Reserve Bank notes or cash (currently over $830 billion) and U.S. Treasury balances.

When the Japanese economy went into the doldrums, the Bank of Japan emphasized the right side of its balance sheet by building up excess reserves and cash, only to find that accumulation did too little to rejuvenate the system.

As I said earlier, in times of crisis many feel that the best position to take is somewhere between cash and fetal. But it does the economy no good when creditors curl up in a ball and clutch their money. This only reinforces the widening of spreads between risk-free holdings and all-important private sector yields, further braking commercial activity whose lifeblood is access to affordable credit. We believe that emphasizing the asset side of the balance sheet will do more to improve the functioning of credit markets and restore the flow of finance to the private sector. In the parlance of central banking finance, I consider this a more qualitative approach to “quantitative easing.” It is bred of having learned from the experience of our Japanese counterparts.

In response to a question about an ultra-low rate policy:

"I have not been a fan of going to really low levels," Bullard said today in a Bloomberg Television interview.  "Why is it zero this time?  I don't quite get that, though I know some people want to go in that direction."

In response to a question about the implications of the slowdown in money supply growth:

 “If you want to go to quantitative measures, then all of the issues about money come back to haunt you.  You have to talk about velocity and shocks to velocity, and you have to think about all the other things that are going on.  That is a debate that existed in the Eighties and probably sort of petered out in the Nineties, but it might be re-merging now.  But I don’t know exactly how the Fed is going to play that going forward.”

 In response to a question about quantitative easing and unconventional methods.

 “I think these issues are being discussed right now, and I don’t know how it’s all going to come out. I will point out that you have the 1979-82 period and there the famous monetarist experiment, for those of your viewers that were around at that time.  And in that case, gave up interest rate targeting, went to quantity targeting, lots of controversy about exactly how that worked and so and so forth, so it’s been done before.  And you could do it again.”

 “I think the Fed has plenty of tools that we can use.  One of the main things that I’m concerned about is somehow we can communicate what we’re going to do to a private sector that is used to thinking in terms of interest rates, because for the time being it looks like that is going to be off the table for a while.”

"We don't expect deflation," Richmond Fed chief Jeffrey Lacker told reporters after a speech to the Tech Council of Maryland.

With the federal funds rate at a low level of 1% and the economy weakening, many Fed watchers have begun to discuss other means of boosting the economy, also called "quantitative easing."

Lacker seemed confident that the Fed has sufficient ammunition, saying that the U.S. central bank has "a wide variety of choices" with which to conduct policy even if interest rates were lowered to zero.

"I don't see our inability to reduce the funds rate below zero as hampering our ability to make monetary policy," he commented.

As reported by Market Watch.

One idea from the Japanese experience is that, with nominal interest rates at very low levels, more attention may have to be paid to quantitative measures of monetary policy. By announcing and maintaining targets for key monetary quantities, the Fed may be able to keep inflation and inflation expectations near target and ward off either a drift toward deflation or excessively high inflation. This will be an important issue for the Fed in coming months and represents a challenge in the communication of monetary policy going forward.