FOMC Minutes

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Minutes of the Federal Open Market Committee

July 31–August 1, 2012

A meeting of the Federal Open Market Committee was

held in the offices of the Board of Governors of the

Federal Reserve System in Washington, D.C., on Tuesday, July 31, 2012, at 1:00 p.m. and continued on

Wednesday, August 1, 2012, at 9:00 a.m.

PRESENT:

Ben Bernanke, Chairman

William C. Dudley, Vice Chairman

Elizabeth Duke

Jeffrey M. Lacker

Dennis P. Lockhart

Sandra Pianalto

Jerome H. Powell

Sarah Bloom Raskin

Jeremy C. Stein

Daniel K. Tarullo

John C. Williams

Janet L. Yellen

James Bullard, Christine Cumming, Charles L. Evans,

Esther L. George, and Eric Rosengren, Alternate

Members of the Federal Open Market Committee

Richard W. Fisher, Narayana Kocherlakota, and

Charles I. Plosser, Presidents of the Federal Reserve Banks of Dallas, Minneapolis, and Philadelphia, respectively

Nellie Liang, Director, Office of Financial Stability Policy and Research, Board of Governors

Jon W. Faust and Andrew T. Levin, Special Advisors to

the Board, Office of Board Members, Board of

Governors

James A. Clouse, Deputy Director, Division of Monetary Affairs, Board of Governors

Linda Robertson, Assistant to the Board, Office of

Board Members, Board of Governors

Seth B. Carpenter, Senior Associate Director, Division

of Monetary Affairs, Board of Governors

Thomas Laubach, Senior Adviser, Division of Research

and Statistics, Board of Governors; Joyce K. Zickler, Senior Adviser, Division of Monetary Affairs,

Board of Governors

Michael T. Kiley and David E. Lebow, Associate Directors, Division of Research and Statistics, Board

of Governors

Karen M. Pence, Assistant Director, Division of Research and Statistics, Board of Governors

David H. Small, Project Manager, Division of Monetary Affairs, Board of Governors

William B. English, Secretary and Economist

Deborah J. Danker, Deputy Secretary

Matthew M. Luecke, Assistant Secretary

David W. Skidmore, Assistant Secretary

Michelle A. Smith, Assistant Secretary

Scott G. Alvarez, General Counsel

Thomas C. Baxter, Deputy General Counsel

Steven B. Kamin, Economist

David W. Wilcox, Economist

David A. Sapenaro, First Vice President, Federal Reserve Bank of St. Louis

David Altig, Thomas A. Connors, Michael P. Leahy,

James J. McAndrews, William Nelson, David Reifschneider, William Wascher, Associate Economists

Jeff Fuhrer and Daniel G. Sullivan, Executive Vice

Presidents, Federal Reserve Banks of Boston and

Chicago, respectively

Simon Potter, Manager, System Open Market Account

Troy Davig and Christopher J. Waller, Senior Vice

Presidents, Federal Reserve Banks of Kansas City

and St. Louis, respectively

Michael S. Gibson, Director, Division of Banking Supervision and Regulation, Board of Governors

Elizabeth Klee, Senior Economist, Division of Monetary Affairs, Board of Governors; Robert J. Tetlow,

Senior Economist, Division of Research and Statistics, Board of Governors

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Reuven Glick, Group Vice President, Federal Reserve

Bank of San Francisco

Todd E. Clark, Lorie K. Logan, Keith Sill, and Mark A.

Wynne, Vice Presidents, Federal Reserve Banks of

Cleveland, New York, Philadelphia, and Dallas, respectively

Robert L. Hetzel and Samuel Schulhofer-Wohl, Senior

Economists, Federal Reserve Banks of Richmond

and Minneapolis, respectively

Simple Rules for Monetary Policy

A staff presentation summarized research on the efficacy of alternative simple monetary policy rules in fostering the Federal Reserve’s monetary policy objectives

of maximum employment and price stability. The

presentation reviewed the characteristics of a variety of

rules and noted a number of reasons why current conditions might warrant deviating from the prescriptions

of simple rules designed for more normal times. The

presentation also discussed how simple rules might be

used as part of a comprehensive policy framework to

provide clear and transparent benchmarks for monetary

policy decisionmaking and the possibility that such

rules could be helpful in communicating the connection between policy choices and the Federal Open

Market Committee’s (FOMC) objectives.

Meeting participants expressed a range of views regarding the appropriate role of policy rules in monetary

policy decisionmaking. A number of participants indicated that such rules have played a useful role in informing the Committee’s monetary policy deliberations. However, several participants pointed to specific

considerations—including the possible mismeasurement of unobservable variables, such as potential output, and uncertainty about the appropriate economic

models to use in estimating the magnitude of those

variables—that might limit the usefulness of simple

rules both internally and in public communications.

Several participants saw value in examining the performance of rules across a range of economic models.

Participants discussed the case for making adjustments

to the prescriptions of simple policy rules in the current

circumstances to take into account various considerations such as the effective lower bound for the federal

funds rate, the effects of the Committee’s balance sheet

policies, and potential shifts in the dynamics of the

economy. Some participants noted that adjustment of

standard policy rules for balance sheet policies would

tend to push up the federal funds rate prescription,

while a number of participants indicated that other factors related to current circumstances may warrant

maintaining an accommodative stance of policy for

longer than would be prescribed by standard rules.

With regard to the latter, some participants suggested

that inertial policy rules—that is, rules under which any

movements in the stance of policy tend to be fairly persistent—would be most appropriate in the current context.

Developments in Financial Markets and the Federal Reserve’s Balance Sheet

The Manager of the System Open Market Account

(SOMA) reported on developments in domestic and

foreign financial markets during the period since the

FOMC met on June 19–20, 2012. He also reported on

System open market operations, including the ongoing

reinvestment into agency-guaranteed mortgage-backed

securities (MBS) of principal payments received on

SOMA holdings of agency debt and agency-guaranteed

MBS as well as the operations related to the continuation of the maturity extension program authorized at

the June 19–20, 2012, FOMC meeting. His report included a summary of analysis prepared by the staff on

the potential implications of the size and composition

of the Federal Reserve’s securities portfolio for privatesector holdings of Treasury securities and agency MBS

and for trading conditions in markets related to these

securities. The Manager also reported on recent developments in European money markets and implications

for the yields on the euro-denominated assets that the

Federal Reserve holds in its foreign exchange reserves.

By unanimous vote, the Committee ratified the Desk’s

domestic transactions over the intermeeting period.

There were no intervention operations in foreign currencies for the System’s account over the intermeeting

period.

Staff Review of the Economic Situation

The information reviewed at the July 31–August 1

meeting indicated that economic activity increased at a

slower pace in the second quarter than earlier in the

year and that labor market conditions had improved

little in recent months. In addition, revised data for

2009 through 2011 from the Bureau of Economic

Analysis indicated that the recession had been slightly

less deep and the early part of the subsequent recovery

had been a bit more gradual than previously thought,

leaving the level of real gross domestic product (GDP)

at the end of last year essentially the same as estimated

earlier. In the second quarter, consumer price inflation

was markedly lower than in the first quarter, mostly

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reflecting substantial declines in consumer energy

prices, while measures of longer-run inflation expectations remained stable.

Private nonfarm employment expanded in June at

about the same modest pace as in the second quarter as

a whole, and government employment decreased slightly. The unemployment rate was 8.2 percent in June,

the same as its average during the first half of the year.

The rate of long-duration unemployment stayed elevated, and the share of workers employed part time for

economic reasons was still high. Indicators of job

openings and firms’ hiring plans were generally subdued. While initial claims for unemployment insurance

trended down a bit over the intermeeting period, they

remained at a level consistent with continued modest

increases in employment in the coming months.

Manufacturing production decelerated significantly in

the second quarter following a large gain in the first

quarter, while the rate of manufacturing capacity utilization was unchanged on balance. The production of

motor vehicles and parts increased considerably last

quarter, but factory output outside of the motor vehicle

sector was essentially flat. Automakers’ schedules indicated that the pace of motor vehicle assemblies in the

third quarter would be about the same as in the second

quarter. Broader indicators of manufacturing output,

such as the diffusion indexes of new orders from the

national and regional manufacturing surveys, declined

in recent months and were at levels consistent with

only muted increases in production in the near term.

Real personal consumption expenditures increased at a

slower rate in the second quarter than in the first quarter, primarily reflecting a decrease in spending for motor vehicles. Meanwhile, real disposable personal income rose at a faster pace than consumer spending in

both the first and second quarters, boosted in part in

recent months by lower energy prices. Consumer sentiment as measured by the Thomson Reuters/University of Michigan Surveys of Consumers

(Michigan Survey) was more downbeat in June and July

than earlier in the year.

Conditions in the housing market generally improved

further in recent months, but activity remained at a low

level against the backdrop of the large inventory of

foreclosed and distressed properties and tight underwriting standards for mortgage loans. Both starts and

permits of new single-family homes increased in the

second quarter. Starts of new multifamily units were

about the same last quarter as in the previous quarter,

but permits rose, which pointed to higher multifamily

construction in the coming months. Home prices increased in May for the fifth consecutive month. Sales

of new homes in the second quarter were moderately

higher than in the first quarter, but existing home sales

decreased slightly.

Real business expenditures on equipment and software

rose in the second quarter at a faster pace than in the

first quarter. However, new orders for nondefense

capital goods excluding aircraft decreased last quarter,

and the backlog of unfilled orders decelerated sharply.

Other recent forward-looking indicators, such as surveys of business conditions and capital spending plans,

also suggested that increases in outlays for business

equipment would slow in coming months. Real business spending for nonresidential construction increased

somewhat in the second quarter but remained at a relatively low level. Meanwhile, business inventories generally appeared to be relatively well aligned with sales.

Real federal government purchases decreased a little in

the second quarter, following a much sharper decline in

the previous three quarters, as the continued contraction in defense spending eased. Real state and local

government purchases continued to contract at a moderate rate last quarter.

The U.S. international trade deficit narrowed in May, as

exports edged up and imports declined. The increase

in exports primarily reflected higher exports of services

and agricultural products. The decrease in imports was

the result of a decline in oil imports, as both the price

and the quantity of oil imports fell. Imports of consumer goods and industrial supplies also moved down,

but imports of capital goods and automotive products

increased. Based on an estimate of the trade data for

June, the advance release of the national income and

product accounts showed that real net exports of goods

and services made a small negative arithmetic contribution to the increase in U.S. real GDP in the second

quarter.

Overall U.S. consumer prices increased at a slower pace

in the second quarter than in the first. Consumer energy prices declined significantly last quarter, and survey

data indicated that gasoline prices fell somewhat further

in the first few weeks of July. Meanwhile, consumer

food prices posted only a small increase last quarter,

but the recent sizable run-up in spot and futures prices

of farm commodities, reflecting the effects of the

drought and hot weather in the midwestern part of the

United States, pointed to some temporary upward pressures on retail food prices later this year. Consumer

prices excluding food and energy increased more mod-

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erately in the second quarter than in the first. Nearterm inflation expectations from the Michigan Survey

rose a little in June and July, while longer-term inflation

expectations in the survey continued to be stable.

Available measures of labor compensation indicated

that nominal wage gains remained restrained. The employment cost index rose at a modest pace again in the

second quarter. Average hourly earnings for all employees also increased at a relatively slow rate last quarter.

Foreign economic growth continued to be subdued, as

fiscal retrenchment and financial stresses in the euro

area continued to weigh on economic activity in Europe and elsewhere. Recent indicators of production

and confidence in the euro area remained weak, and the

preliminary second-quarter estimate of real GDP in the

United Kingdom showed a contraction. Real GDP in

China accelerated somewhat in the second quarter following a relatively weak expansion in the first quarter,

and recent monthly data suggested some further improvement. However, data for other emerging market

economies generally pointed to a deceleration in economic activity last quarter. Foreign inflation eased in

the second quarter and remains well contained, as earlier declines in the prices of energy and other commodities passed through to the retail level.

Staff Review of the Financial Situation

Several factors influenced developments in financial

markets since the time of the June FOMC meeting.

Generally weaker-than-expected economic data in the

United States, concerns about the fiscal and banking

situation in the euro area, and the outlook for global

economic growth weighed on investor sentiment.

However, the effects of these factors were offset to

some extent by actual and expected easing of monetary

policy in the United States and abroad and by betterthan-anticipated profits at some S&P 500 firms.

Interest rates generally moved down, on net, over the

intermeeting period. The yield on nominal 10-year

Treasury securities declined to a historically low level,

partly due to a lower expected path of the federal funds

rate, the continuation of the maturity extension program announced at the June FOMC meeting, and perceptions of an increased likelihood that the Federal

Reserve will ease monetary policy further. In addition,

persistent concerns about euro-area developments were

reportedly associated with increased safe-haven demands that contributed to the decline in Treasury

yields. Anecdotal reports suggested that the decrease in

shorter-term yields may also have reflected somewhat

increased expectations that the Federal Reserve would

reduce the interest rate paid on reserve balances in

coming months. Near-term indicators of inflation expectations derived from nominal and inflationprotected Treasury securities fell modestly despite an

increase in some commodity prices; such indicators

changed little at longer horizons. The expected path

for the federal funds rate derived from money market

futures quotes shifted down.

Conditions in short-term unsecured dollar funding

markets remained stable over the intermeeting period,

although most peripheral euro-area institutions continued to have little, if any, access to such markets. In

secured funding markets, Treasury general collateral

repurchase agreement rates rose slightly on balance.

Broad indexes of U.S. equity prices rose somewhat, on

net, over the intermeeting period, with significant gains

prompted in part by comments from European officials that apparently raised investor expectations for

near-term European policy actions. Option-implied

volatility on the S&P 500 index rose slightly. Stock

prices for the large domestic bank holding companies

posted mixed changes over the period, and credit default swap (CDS) spreads for those firms generally

moved lower on net.

Yields on investment- and speculative-grade corporate

bonds fell further over the intermeeting period, approaching record lows. Their spreads relative to comparable-maturity Treasury securities narrowed but were

still above their average levels prior to the financial crisis. Nonfinancial firms continued to issue debt at a

strong pace over the period. Gross investment-grade

corporate bond issuance remained robust in June and

July, while the volume of nonfinancial commercial paper outstanding rose early in the second quarter but

decreased slightly in June. Commercial and industrial

(C&I) loans advanced further over the intermeeting

period. Issuance in the syndicated leveraged loan market remained solid in the second quarter; terms and

structures of new leveraged loan deals reportedly loosened modestly on the margin. Gross public equity issuance by nonfinancial firms was anemic in June and

July.

Financial conditions in the commercial real estate market remained somewhat strained against a backdrop of

weak fundamentals and still-tight underwriting. That

said, issuance of commercial mortgage-backed securities picked up in the second quarter.

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Despite new historical lows for residential mortgage

rates over the intermeeting period, refinancing activity

remained relatively muted. Evidence from the Senior

Loan Officer Opinion Survey on Bank Lending Practices (SLOOS) conducted in July indicated that mortgage underwriting standards at banks generally have not

eased much from their tightest post-crisis levels. Consumer credit expanded further in May as a result of

rapid increases in student loans and, to a lesser extent,

auto loans. Delinquency rates for consumer credit remained low, likely in part because of a compositional

shift of credit supply over the past few years toward the

least-risky borrowers.

Gross issuance of long-term municipal bonds was robust in June and July. Net issuance of long-term bonds

turned positive in the second quarter after staying in

negative territory for much of the past year. Yields on

long-term general obligation municipal bonds generally

followed Treasury yields lower, while default rates remained very low and CDS spreads for states were

roughly unchanged on net.

Bank credit and total loans continued to expand modestly in the second quarter, largely because of the further robust increase in C&I loans. The gradual expansion in total loans was broadly consistent with the July

SLOOS, in which domestic banks generally indicated

that demand strengthened for many types of loans in

the second quarter and that lending standards eased

somewhat, on balance, across most major loan categories.

The staff’s broad nominal index for the foreign exchange value of the dollar changed little, on net, over

the intermeeting period, although the dollar appreciated

against the euro. Financial markets in the euro area

were volatile, as a deterioration in market sentiment

gave way to periods of optimism following the euroarea summit in late June, the decision by the European

Central Bank (ECB) to ease policy in early July, and

indications from the ECB later in July that the central

bank might take further steps to support the monetary

union. On net, European stock markets finished the

period higher. Yield spreads on Spanish and Italian 10year bonds over their German equivalents, which rose

sharply over most of July, fell back from their intermeeting peaks but remained elevated.

Several foreign central banks eased monetary policy

over the intermeeting period. The ECB cut its benchmark policy rate by 25 basis points and reduced the rate

on its overnight deposit facility to zero. The Bank of

England increased the size of its asset purchase pro-

gram and announced details on its new program designed to boost bank lending to the nonfinancial sector.

The central banks of Brazil, China, and South Korea all

reduced official rates as well. Amid policy easing in the

euro area and United Kingdom, yields on German and

U.K. sovereign bonds declined, with two-year German

sovereign bonds trading at yields below zero.

Staff Economic Outlook

In the economic forecast prepared by the staff for the

July 31–August 1 FOMC meeting, the near-term projection for real GDP growth was revised down somewhat. The revision primarily reflected a slower pace of

consumer spending than the staff expected at the time

of the previous projection, along with a deterioration in

some forward-looking indicators. However, the staff’s

medium-term forecast for real GDP growth was little

changed, as the slightly weaker underlying pace of economic activity suggested by the recent data was roughly

offset by the anticipated effects of the continuation of

the maturity extension program announced following

the June FOMC meeting, which had not been incorporated in the previous projection. With the restraint

from fiscal policy assumed to increase next year, the

staff projected that increases in real GDP would not

significantly exceed the growth rate of potential output

in 2013. Thereafter, economic activity was expected to

accelerate gradually, supported by an eventual easing in

fiscal policy restraint, gains in consumer and business

sentiment, further improvements in credit conditions,

and continued accommodative monetary policy. The

expansion in economic activity was anticipated to reduce the substantial margin of slack in labor and product markets only slowly over the projection period, and

the unemployment rate was expected to remain elevated at the end of 2014.

The staff’s forecast for inflation was little changed from

the projection prepared for the June FOMC meeting.

With crude oil prices expected to decline a bit from

their current levels, the boost to retail food prices from

the current drought in the Midwest anticipated to be

only temporary and relatively small, longer-run inflation

expectations remaining stable, and substantial resource

slack persisting over the forecast period, the staff continued to project that inflation would be subdued

through 2014.

Participants’ Views on Current Conditions and the

Economic Outlook

In their discussion of the economic situation and the

outlook, meeting participants agreed that the information received since the Committee met in June sug-

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gested that economic activity had decelerated in recent

months to a slower pace than they had anticipated.

Although business investment had continued to advance, consumer spending had slowed considerably

since earlier in the year. Conditions in the housing sector appeared to have improved somewhat, but from a

very low level. Indicators of manufacturing activity had

softened. Recent monthly gains in payroll employment

had continued to be small, and the unemployment rate

in June remained at an elevated level. Consumer price

inflation had been low in recent months, as declines in

the costs of crude oil were passed through to retail energy prices. Longer-term inflation expectations had

remained stable.

Regarding the economic outlook, most participants

agreed that economic growth was likely to remain

moderate over coming quarters and then pick up gradually. However, some participants indicated that they

had lowered their near-term forecasts for economic

growth in light of the weaker-than-expected increases

in consumer spending and employment in recent

months. In addition, some participants expressed concern about the persistent headwinds restraining the

pace of the recovery, including the weak housing sector, still-tight borrowing conditions for some households and firms, and fiscal restraint at all levels of government. Many participants judged that a high level of

uncertainty about possible spillovers from the fiscal

and banking strains in the euro area and about the outlook for U.S. fiscal or regulatory policies was holding

back household and business spending. And they saw

the possibilities of an intensification of strains in the

euro area and of a sharper-than-anticipated U.S. fiscal

consolidation as significant downside risks to the economic outlook. Although participants generally agreed

that improvements in recent years in the capital and

liquidity of financial institutions and in the strength of

household and business balance sheets have increased

the resilience of the economy, some were concerned

that at its current pace, the recovery was still vulnerable

to adverse shocks. Given participants’ forecasts of

economic activity, they generally anticipated that the

unemployment rate would decline only slowly toward

levels that participants judge to be consistent with the

Committee’s mandate. Participants’ assessments of the

outlook for inflation were largely unchanged from

those reported in June. Smoothing through the effects

of fluctuations in food and energy prices, participants

anticipated that inflation over the medium term would

remain at or below the Committee’s 2 percent longerrun objective.

Meeting participants again exchanged views on the extent of slack in labor and product markets. A number

of participants expressed the view that structural

changes in the labor market were not sufficient to explain the high level of unemployment. Those participants saw substantial slack in resource utilization and

hence continued to judge that inflation was likely to

remain subdued over the medium term as the economy

continued to recover. However, several other participants interpreted the moderate pace of the recovery as

pointing to a more substantial markdown in the trajectory of potential output. In particular, a couple of participants noted that they would have expected inflation

to have fallen more in recent years if the output gap

had been as substantial as some measures suggested.

One participant posited that the sharp decline in net

worth and reduced credit availability in recent years not

only weighed on aggregate demand, but also reduced

aggregate supply by hampering new business formation

and product innovation; another participant cited evidence that structural unemployment was elevated as a

result of mismatches between the skills demanded by

employers and those of the long-duration unemployed.

In discussing developments in the household sector,

many participants noted the recent deceleration in

overall consumer spending, although a couple cited

new autos and tourism as areas of relative strength.

Participants saw several factors as likely contributing to

slower consumer spending, including the weakness in

earned income and a high level of uncertainty among

households about the economic outlook. Several

pointed out that while households had made considerable progress in reducing their debt and rebuilding their

savings, the deleveraging process was still ongoing, the

level of housing debt remained high, and a significant

number of mortgage borrowers continued to be underwater on their loans. Home sales and construction

were generally viewed as gradually improving, supported in part by historically low mortgage interest rates.

Many participants reported that house prices in their

Districts were rising or had bottomed out, and several

noted that their contacts saw signs of progress in reducing the overhang of unsold properties. However, it

was noted that the reduction in inventories should be

viewed cautiously because owners who are underwater

on their mortgages may be withholding their homes

from the market, implying a substantial “shadow” inventory.

Regarding the business sector, many participants reported that, with the exception of motor vehicle production, manufacturing activity in their Districts was

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slow or had declined in recent months. Nonetheless,

forward-looking surveys of orders and manufacturing

production in a couple of Districts were more positive.

Energy-related activity continued to expand, and investment projects in that sector were reported to be

moving forward. However, contacts in several Districts indicated that export demand had weakened as a

result of the slowdown in economic activity in Europe;

Asia; and some emerging market countries, including

China. More generally, some participants reported that

their business contacts regarded the economic outlook

to be highly uncertain, in part due to unresolved fiscal

and regulatory matters. Although several participants

noted that the uncertainty had not led businesses in

their Districts to reduce payrolls or cut back spending,

others cited reports of shortfalls from business plans

that could lead to cost-cutting, of restructuring to position firms for leaner operations, or even of postponed

investment and hiring. Two participants provided an

update on the situation in the agricultural sector in light

of the drought in the Midwest: With crop yields projected to be down markedly and prices rising, livestock

producers appeared likely to suffer losses as a result of

higher input costs while crop producers would need to

rely on higher prices and crop insurance to stabilize

their income.

The incoming information on inflation over the intermeeting period was largely in line with participants’

expectations. Consumer prices had decelerated as a

result of the pass-through of lower crude oil costs to

retail prices of gasoline and fuel oil. Crude oil prices

had turned up again more recently, but one participant

noted that global inventories of oil were elevated and,

with world demand easing, prices should be restrained

going forward. Participants acknowledged that the

drought would likely result in a temporary run-up in

consumer food prices later this year. Nonetheless, inflation was expected to remain subdued, on balance,

over coming quarters. In explaining that outlook, participants cited the lack of upward pressure from labor

costs and prices of imported commodities as well as the

stability of inflation expectations. A couple of participants referred to information from business contacts

suggesting that inflation was unlikely to decline further,

and a few expressed concerns that maintaining a highly

accommodative stance of monetary policy for an extended period could erode the stability of inflation expectations over time and hence posed upside risks to

the inflation outlook.

Financial markets remained sensitive to ongoing developments related to the sovereign debt and banking sit-

uation in the euro area, and participants continued to

view the possibility of an intensification of strains in

global financial markets as a significant downside risk

to the domestic economic outlook. Several participants

indicated that recent trends in euro-area equity indexes

and sovereign debt yields had not been encouraging,

and some noted that the uncertainty prevailing in global

financial markets was showing through in a cautious

posture of investors. Nonetheless, participants generally agreed that conditions in domestic credit markets

remained more favorable than they were a year ago.

One participant pointed out that credit risk spreads—

while still above pre-recession norms—may have been

boosted by safe-haven demands for Treasury securities

and indicated that broader financial market conditions

seemed reasonably accommodative. Banks were reported to be seeing an increase in their residential

mortgage business along with a continued rise in C&I

lending, especially to large firms; consumer credit was

also increasing.

Participants discussed a number of policy tools that the

Committee might employ if it decided to provide additional monetary accommodation to support a stronger

economic recovery in a context of price stability. One

of the policy options discussed was an extension of the

period over which the Committee expected to maintain

its target range for the federal funds rate at 0 to

¼ percent. It was noted that such an extension might

be particularly effective if done in conjunction with a

statement indicating that a highly accommodative

stance of monetary policy was likely to be maintained

even as the recovery progressed. Given the uncertainty

attending the economic outlook, a few participants

questioned whether the conditionality of the forward

guidance was sufficiently clear, and they suggested that

the Committee should consider replacing the calendar

date with guidance that was linked more directly to the

economic factors that the Committee would consider

in deciding to raise its target for the federal funds rate,

or omit the forward guidance language entirely.

Participants also exchanged views on the likely benefits

and costs of a new large-scale asset purchase program.

Many participants expected that such a program could

provide additional support for the economic recovery

both by putting downward pressure on longer-term

interest rates and by contributing to easier financial

conditions more broadly. In addition, some participants noted that a new program might boost business

and consumer confidence and reinforce the Committee’s commitment to making sustained progress toward

its mandated objectives. Participants also discussed the

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merits of purchases of Treasury securities relative to

agency MBS. However, others questioned the possible

efficacy of such a program under present circumstances, and a couple suggested that the effects on economic

activity might be transitory. In reviewing the costs that

such a program might entail, some participants expressed concerns about the effects of additional asset

purchases on trading conditions in markets related to

Treasury securities and agency MBS, but others agreed

with the staff’s analysis showing substantial capacity for

additional purchases without disrupting market functioning. Several worried that additional purchases

might alter the process of normalizing the Federal Reserve’s balance sheet when the time came to begin removing accommodation. A few participants were concerned that an extended period of accommodation or

an additional large-scale asset purchase program could

increase the risks to financial stability or lead to a rise in

longer-term inflation expectations. Many participants

indicated that any new purchase program should be

sufficiently flexible to allow adjustments, as needed, in

response to economic developments or to changes in

the Committee’s assessment of the efficacy and costs

of the program.

Some participants commented on other possible tools

for adding policy accommodation, including a reduction in the interest rate paid on required and excess

reserve balances. While a couple of participants favored such a reduction, several others raised concerns

about possible adverse effects on money markets. It

was noted that the ECB’s recent cut in its deposit rate

to zero provided an opportunity to learn more about

the possible consequences for market functioning of

such a move. In light of the Bank of England’s Funding for Lending Scheme, a couple of participants expressed interest in exploring possible programs aimed

at encouraging bank lending to households and firms,

although the importance of institutional differences

between the two countries was noted.

Committee Policy Action

The information received over the intermeeting period

indicated that economic activity had decelerated in recent months, with a notable slowing in consumer

spending. Employment gains continued to be modest,

and the unemployment rate was unchanged at a level

that almost all members saw as elevated relative to levels consistent with the Committee’s mandate. Inflation

had declined from its rate earlier in the year, mainly

reflecting lower prices of crude oil and gasoline, and

inflation expectations had been stable. Members generally expected that economic growth would be moder-

ate over coming quarters and then would pick up very

gradually. While most members did not view the

medium-run economic outlook as having changed significantly since the June meeting, several noted that

they had lowered their expectations for economic

growth over coming quarters. Furthermore, members

generally attached an unusually high level of uncertainty

to their assessments of the economic outlook and continued to judge that the risks to economic growth were

tilted to the downside because of strains in financial

markets stemming from the sovereign debt and banking situation in Europe as well as the potential for a

significant slowdown in global economic growth and

for a sharper-than-anticipated fiscal contraction in the

United States. A number of members noted that if the

recent modest rate of economic growth were to persist,

the economy would be less able to weather a material

adverse shock without slipping back into recession.

Most members continued to anticipate that, with longer-term inflation expectations stable and the existing

slack in resource utilization being taken up very gradually, inflation would run over the medium term at a rate

at or below the Committee’s objective of 2 percent. In

contrast, one member thought that the economy may

be operating near its current potential and, thus, that

maintaining the Committee’s current highly accommodative policy stance well into 2014 would pose upside

risks to the inflation outlook.

The Committee had provided additional accommodation at its previous meeting by announcing the continuation of the maturity extension program through the

end of the year, and more time was seen as necessary to

evaluate the effects of that decision. Nonetheless,

many members expected that at the end of 2014, the

unemployment rate would still be well above their estimates of its longer-term normal rate and that inflation

would be at or below the Committee’s longer-run objective of 2 percent. A number of them indicated that

additional accommodation could help foster a more

rapid improvement in labor market conditions in an

environment in which price pressures were likely to be

subdued. Many members judged that additional monetary accommodation would likely be warranted fairly

soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the

economic recovery. Several members noted the benefits of accumulating further information that could help

clarify the contours of the outlook for economic activity and inflation as well as the need for further policy

action. One member judged that additional accommodation would likely not be effective in improving the

Minutes of the Meeting of July 31–August 1, 2012

Page 9

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economic outlook and viewed the potential costs associated with such action as unacceptably high. At the

conclusion of the discussion, members agreed that they

would closely monitor economic and financial developments and carefully weigh the potential benefits and

costs of various tools in assessing whether additional

policy action would be warranted.

With respect to the statement to be released following

the meeting, members agreed that it should

acknowledge the deceleration in economic activity, the

small gains in employment, and the slowing in inflation

reflected in the economic data over the intermeeting

period. Because most saw no significant changes in the

medium-run outlook, they agreed to continue to indicate that the Committee anticipates a very gradual

pickup in economic activity over time and a slow decline in unemployment, with inflation at or below the

rate that it judges most consistent with its dual mandate. Many members expressed support for extending

the Committee’s forward guidance, but they agreed to

defer a decision on this matter until the September

meeting in order to consider such an adjustment in the

context of updates to participants’ individual economic

projections and the Committee’s further consideration

of its policy options. The statement also reiterated the

Committee’s intention to extend the average maturity

of its securities holdings as announced in June. Consistent with the concerns expressed by many members

about the slow pace of the economic recovery, the

downside risks to economic growth, and the considerable slack in resource utilization, the Committee decided that the statement should conclude by indicating

that it will provide additional accommodation as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a

context of price stability.

At the conclusion of the discussion, the Committee

voted to authorize and direct the Federal Reserve Bank

of New York, until it was instructed otherwise, to execute transactions in the System Account in accordance

with the following domestic policy directive:

“The Federal Open Market Committee seeks

monetary and financial conditions that will

foster price stability and promote sustainable

growth in output. To further its long-run objectives, the Committee seeks conditions in

reserve markets consistent with federal funds

trading in a range from 0 to ¼ percent. The

Committee directs the Desk to continue the

maturity extension program it announced in

June to purchase Treasury securities with remaining maturities of 6 years to 30 years with

a total face value of about $267 billion by the

end of December 2012, and to sell or redeem

Treasury securities with remaining maturities

of approximately 3 years or less with a total

face value of about $267 billion. For the duration of this program, the Committee directs

the Desk to suspend its current policy of rolling over maturing Treasury securities into new

issues. The Committee directs the Desk to

maintain its existing policy of reinvesting

principal payments on all agency debt and

agency mortgage-backed securities in the System Open Market Account in agency mortgage-backed securities. These actions should

maintain the total face value of domestic securities at approximately $2.6 trillion. The

Committee directs the Desk to engage in dollar roll transactions as necessary to facilitate

settlement of the Federal Reserve’s agency

MBS transactions. The System Open Market

Account Manager and the Secretary will keep

the Committee informed of ongoing developments regarding the System’s balance sheet

that could affect the attainment over time of

the Committee’s objectives of maximum employment and price stability.”

The vote encompassed approval of the statement below to be released at 2:15 p.m.:

“Information received since the Federal

Open Market Committee met in June suggests that economic activity decelerated

somewhat over the first half of this year.

Growth in employment has been slow in recent months, and the unemployment rate

remains elevated. Business fixed investment

has continued to advance.

Household

spending has been rising at a somewhat

slower pace than earlier in the year. Despite

some further signs of improvement, the

housing sector remains depressed. Inflation

has declined since earlier this year, mainly reflecting lower prices of crude oil and gasoline, and longer-term inflation expectations

have remained stable.

Consistent with its statutory mandate, the

Committee seeks to foster maximum employment and price stability. The Committee

expects economic growth to remain moder-

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Federal Open Market Committee

_____________________________________________________________________________________________

ate over coming quarters and then to pick up

very gradually. Consequently, the Committee anticipates that the unemployment rate

will decline only slowly toward levels that it

judges to be consistent with its dual mandate.

Furthermore, strains in global financial markets continue to pose significant downside

risks to the economic outlook. The Committee anticipates that inflation over the medium term will run at or below the rate that it

judges most consistent with its dual mandate.

To support a stronger economic recovery

and to help ensure that inflation, over time,

is at the rate most consistent with its dual

mandate, the Committee expects to maintain

a highly accommodative stance for monetary

policy. In particular, the Committee decided

today to keep the target range for the federal

funds rate at 0 to ¼ percent and currently

anticipates that economic conditions—

including low rates of resource utilization

and a subdued outlook for inflation over the

medium run—are likely to warrant exceptionally low levels for the federal funds rate

at least through late 2014.

The Committee also decided to continue

through the end of the year its program to extend the average maturity of its holdings of

securities as announced in June, and it is

maintaining its existing policy of reinvesting

principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities.

The Committee will closely monitor incoming

information on economic and financial developments and will provide additional accommodation as needed to promote a stronger

economic recovery and sustained improvement in labor market conditions in a context

of price stability.”

Voting for this action: Ben Bernanke, William C.

Dudley, Elizabeth Duke, Dennis P. Lockhart, Sandra

Pianalto, Jerome H. Powell, Sarah Bloom Raskin, Jere-

my C. Stein, Daniel K. Tarullo, John C. Williams, and

Janet L. Yellen.

Voting against this action: Jeffrey M. Lacker.

Mr. Lacker dissented because he did not believe that

exceptionally low levels for the federal funds rate were

likely to be warranted for the length of time specified in

the Committee’s statement. In his view, significant

uncertainty regarding the evolution of economic conditions over the next few years made the future path of

interest rates difficult to forecast, and the Committee’s

statement implied more confidence on this score than

justified by the current outlook.

Consensus Forecast Experiment

In light of the discussion at the previous FOMC meeting, the subcommittee on communications developed

an initial experimental exercise intended to shed light

on the feasibility and desirability of constructing an

FOMC consensus forecast. At this meeting, participants discussed various aspects of the exercise, such as

the possible monetary policy assumptions on which to

condition an FOMC consensus forecast, the measurement of the degree of uncertainty surrounding each of

the projected variables in the forecast, and the potential

for communications benefits. In conclusion, participants generally expressed support for a second exercise

to be undertaken in conjunction with the September

FOMC meeting.

It was agreed that the next meeting of the Committee

would be held on Wednesday–Thursday, September

12–13, 2012. The meeting adjourned at 2:15 p.m. on

August 1, 2012.

Notation Vote

By notation vote completed on July 10, 2012, the

Committee unanimously approved the minutes of the

FOMC meeting held on June 19–20, 2012.

_____________________________

William B. English

Secretary