Such capacity may be a concern given the risk that a more normal portfolio size and composition may not be reached before an adverse shock brings short-term rates back to their effective lower bound, perhaps warranting renewed balance sheet expansion.41 This risk may be particularly pronounced in a low neutral rate environment. In principle, asset sales could accelerate normalization of the size and composition of the balance sheet, but the market effects of longduration asset sales could be uncertain, and sales could affect the path of short-term rates.42 Moreover, a central bank that does not hold the assets it has purchased as long as market participants anticipate could lose credibility, making future asset purchases less effective. The central bank must therefore consider the effects of its balance sheet actions in the context of the overall monetary policy setting, including the interplay between changes in the balance sheet and changes in interest rates. Uncertainties related to this relationship help to explain the FOMC’s choice to make changes in overnight rates its main tool for adjusting the stance of monetary policy in the normalization process while balance sheet normalization runs in the background. Still, having both instruments in the central bank’s toolkit raises the importance of clear and cohesive communications about their respective use. Lesson 7: Operational flexibility is important As I noted earlier, the Fed successfully adapted its operating regime to be able to control interest rates even with a large balance sheet.
12 / 13  BIS central bankers' speeches  Following each meeting, the FOMC announced a monthly pace at which it would buy Treasury securities and agency MBS, and provided guidance that it would continue its purchases until the “outlook for the labor market had improved substantially in a context of price stability.” The Committee also advised that it was prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changed. 38 The FOMC adopted such guidance throughout its third asset purchase program. Similarly, on October 12, 2017,  ECB President Draghi pledged to maintain interest rates at their current, low level “well past” the end of the ECB’s bond-buying program. 39 Governor Brainard recently suggested that in a low neutral rate environment, delaying balance sheet  normalization is a means to provide “makeup support” for the economy while enabling the policy rate to escape the lower bound earlier than otherwise. See Lael Brainard, “Rethinking Monetary Policy in a New Normal,” remarks for the panel on monetary policy at the Peterson Institute for International Economics conference, Rethinking Macroeconomic Policy, Washington, D.C., October 12, 2017. 40 This sequencing also allowed the FOMC to meaningfully assess the efficacy of its tools to control short-term  interest rates with a large balance sheet, and thereby judge how patient it could afford to be in reducing the balance sheet to its longer-run level.