8 A spread of this size between the Federal Reserve’s two administered-rate tools is expected to be narrow enough to provide sufficient interest rate control but wide enough to preserve a reasonable volume of trading in the federal funds market and to keep the Federal Reserve’s footprint in the nonbank financial sector from growing too large. As suggested by operational guidance in the March minutes, policymakers may adjust either side of the spread between these two rates, as needed, once normalization is under way. Fourth: Qualifications around the use and settings of an ON RRP facility. The FOMC intends to use an ON RRP facility only to the extent necessary and will phase it out when it is no longer needed to help control the federal funds rate. But what is necessary, and how can the facility be phased out? As the minutes of recent FOMC meetings show, Committee participants differ in their answers to those questions, but all agree that demonstrating sufficient control over money market rates during the critical early stages of policy normalization is a priority. Against this backdrop, the Committee has noted that it plans to allow the aggregate capacity of the facility to be temporarily elevated to support policy implementation at liftoff, but also expects that it will be appropriate to reduce ON RRP capacity fairly soon after policy firming commences.
The record of the past indicates that the temptation to “let the good times roll” is deeply embedded in the political economy of regulation. Macro-prudential regulation can also lean against the tendency otherwise of micro-prudential regulators to toughen up their regime in the teeth of the storm. At the heart of this new approach to making policy is a very simple observation, namely that changes in regulatory intensity in this area can have an impact on credit availability and thus the performance of the economy. There are two legs to this argument, and it is important to understand both. The first leg involves the simple proposition that a well capitalised banking system is more likely to support credit creation in the economy. We see evidence today of better capitalised banks tending to see more rapid growth in lending. It is with this objective in mind that the Bank of England’s Financial Policy Committee has recommended that the major UK banks as a group should increase their equity capital resources. The whole point of this action is to enable forward-looking judgemental regulation to take effect in a system where balance sheet strength  4  BIS central bankers’ speeches  is a necessary pre-condition of stronger lending to the economy as a whole. In the same vein, last summer the Bank of England and the FSA took steps to implement a clearly counter cyclical response to a situation which was a problem to for the economy as a whole.