He acknowledged that the Fed already has "engaged in forms of quantitative easing," and should look at it more "as a contingency plan, should that still remote possibility {of deflation} -- but I think less remote than it was -- occur.

...

The Fed official said monetary policymakers have not switched from using interest rates to quantitative easing, but are employing both.   "I don't think we've given up on one in favor of the other. I think we're doing both at the same time," he said. "So we are lowering our target rate. At the same time we are engaging in a great amount of liquidity provision to the system."

From the audience Q&A, as reported by Market News

Asked whether there would be FOMC concern about running out of room to cut rates or about running into the "zero bound" on rates, Stern replied, "Personally, I think the bigger issue is that when you get short-term rates that low, for some institutions like money market funds it's very hard for them to be in the business, because there's no room between the cost of their funds and the return on their assets.  So there are some structural or institutional issues that might come into play, but beyond that I'm not sure I see much."

"If you think that the economic outlook requires a lower target, then I think that you should implement it, in my judgment, but with the caveat that I just gave: bearing in mind that there may be institutional reasons why you may prefer to avoid reducing rates," Stern said.

"So you have to weigh those things," he said. "Otherwise, I would say that if the outlook seems to require it then you should do it."

Asked whether the doubling in size of the balance sheet represents "quantitative easing," Stern said "I don't think that's a bad statement.   I think the world is a little more complicated than that, but I don't think that's a bad statement." 

You can see the size and breadth of the Fed’s efforts to counter the collapse of the credit mechanism in our balance sheet. At the beginning of this year, the assets on the books of the Fed totaled $960 billion. Today, our assets exceed $1.9 trillion. I would not be surprised to see them aggregate to $3 trillion—roughly 20 percent of GDP—by the time we ring in the New Year. The composition of our holdings has shifted considerably. Previously, almost 100 percent of our holdings were in the form of core holdings of U.S. Treasuries; today, less than a third are. The remainder consists of claims deriving from our new facilities.

Unorthodox monetary policy may work, but it obviously would have to be through channels other than reducing short-term interest rates since they are already at zero. Those channels might include reducing expected short-term rates by tilting down long-term rates, or reducing term or risk premiums in long-term rates. The latter also would tend to reduce long-term rates and exchange rates as well.

Pumping up the monetary base by itself would be unlikely to be effective in doing either of these things, that is, reducing short-term rate expectations or term and risk premiums. Such increases in the base would tend to go into excess reserves and there is no obvious reason why that would change expectations about future rates. Tilting open market operations to a limited degree toward bonds or foreign exchange also is not likely to do much. Studies show that modest changes in the supply of bonds, Operation Twist kinds of things, do not have much effect on bond yields. Sterilized intervention, which is what in effect such foreign exchange buying would be, also does not do much. However, massive purchases of bonds or massive intervention might. The Federal Reserve did set the rate on government bonds during World War II. If a central bank were willing to purchase all the supply of government bonds, it could set the bond rate again, and presumably this would feed through to corporate borrowing rates as well. So, there are extreme policies involving massive purchases that should work in lowering term premiums and risk premiums.

Presented as part of the staff briefing at the June 30-July 1 FOMC meeting in 1998.