This can push up risk premia and credit spreads, and push down stock prices—which can more than offset the impact of an easier monetary policy. Divergences between short-term interest rates and financial conditions often appear to be larger and more persistent in the United States than in most other advanced economies. There are several reasons for this. First, the U.S. financial system depends less on its banking system to 2/6  BIS central bankers' speeches  intermediate financial flows than in other countries. The share of credit supplied by the banking sector fluctuates around 50 percent in the United States, which is much lower than in the euro area, Japan and the United Kingdom (Exhibit 2). Second, in contrast to most other countries, U.S. residential housing is financed mainly by 30-year fixed-rate mortgages, rather than—as is the case in most other countries—adjustable-rate mortgages with rates that much more closely track their central banks’ short-term interest rate targets. Third, the equity market plays a much more important role in the United States than elsewhere. The total market capitalization of the U.S. equity market is considerably higher than in the euro area and Japan (Exhibit 3). Because the evolution of financial conditions can diverge from the path of the federal funds rate, financial conditions need to be carefully considered in the conduct of monetary policy. However, I want to reiterate that what we care about is not financial conditions themselves, but rather their influence on economic activity.
As Federal Reserve Chair Yellen explained in a recent speech, not only are there a plethora of rules to choose from, but following any monetary policy rule in a perfunctory manner would likely lead to inappropriate monetary policy at times—especially during economic turning points when the outlook is changing rapidly.6 Also, requiring the Federal Reserve Chair to explain frequently why the FOMC had deviated from a particular rule would unduly impinge on the ability of the FOMC to conduct monetary policy in a manner insulated from short-term political considerations. Of course, Congress has the right to hear from the Federal Reserve about its conduct of U.S. monetary policy. There are already several opportunities, including regular testimony and semiannual monetary policy reports. If Congress desires, such communications could become more frequent or enhanced. But, my point is that these exchanges should not be triggered by deviations from a mechanical rule. And, of course, I feel that this is especially true for a rule that does not account for financial conditions. Now that I have expounded upon the importance of financial conditions, I would like to discuss their implications for the current stance of U.S. monetary policy. As I see it, there were a number of factors behind the FOMC’s decision in March to take another step in gradually removing accommodation by raising the federal funds rate target by 25 basis points to a range of three quarters of a percent to 1 percent. Most importantly, the economy has continued to grow modestly above its sustainable long-term pace.