Fed policymakers spar over interest rates

March 23, 2014 - 11:38:58 am
US Federal Reserve Chair Janet Yellen.

WASHINGTON: Two top Federal Reserve policymakers staked out diametrically opposite views about whether the US central bank should be willing to risk higher unemployment in order to head off a potential financial crisis.

One Fed Board member, Jeremy Stein, said that it should. The other, Minneapolis Fed President Narayana Kocherlakota, disagreed.

The two former economics professors debated in the jargon-laden lingo and polite tones of lifelong academics at a conference held in the Fed’s Washington headquarters. But it suggested the real-life tensions that loomed as Janet Yellen ran her first policy-setting meeting earlier in the week, in the Fed building across the street.

As the world’s most powerful central bank winds down its massive bond stimulus programme aimed at bolstering the US jobs market, Fed officials appear increasingly worried that keeping policy so easy for so long could encourage investors to take too many risks, building bubbles that may eventually pop and roil financial markets.

Stein has warned publicly for a more than a year that low rates could be stoking financial instability, and on Friday argued that excessively low expected returns in the bond market may be a sign that it is time to reduce Fed stimulus, even if doing so hurts jobs.

Kocherlakota for his part argued that the cost of raising rates to head off the unlikely possibility of a crisis is simply not worth it. Indeed, he wants to add to the Fed’s monetary accommodation by promising to keep rates near zero until unemployment reaches a healthy 5.5 percent, and earlier last week dissented from the Fed’s policy decision in part because his colleagues would not agree to peg rate decisions to the unemployment rate. 

At a separate conference of economists on the other side of Washington, a top Fed official appeared to defend Yellen’s market-roiling remark earlier last week that suggested the central bank could raise interest rates next spring, around six months after ending its massive bond-buying program.

“On the considerable period being six months, the surveys that I had seen from the private sector had that kind of number penciled in,” St Louis Federal Reserve Bank President James Bullard said during a lunch with journalists at the Brookings Institution. “That wasn’t very different from what we had heard from financial markets. So, I just think she’s just repeating that.”

After a two-day policy meeting on Wednesday, the Fed said it expected to keep benchmark interest rates near zero for a “considerable time” after it wrapped up a bond-buying stimulus programme, which it is widely expected to do toward the end of the year.

Pressed on the statement at a news conference afterward, Yellen said the phrase “probably means something on the order of around six months or that type of thing.” Stocks and bonds immediately tumbled as traders took the statement to suggest rate hikes could come sooner than they had anticipated.

Futures traders on Friday continued to bet that April 2015 would mark the Fed’s first rate hike. That’s three months earlier than they had thought before the Fed’s policy-setting meeting.

At the Fed on Friday, the Bank of England’s chief economist told fellow economists and policymakers that central bankers should stick to telling markets the economic conditions that could set the stage for rate rises, rather than the timing of them.

“I know I don’t know what will happen to interest rates in the next six to 12 months,” said Spencer Dale who coincidentally was speaking in the same room where Yellen had made the contentious remark two days earlier.

Yellen did not attend the conference on Friday.

In London, Richard Fisher, the hawkish chief of the Dallas Fed, dodged a question about how he would define “considerable time.”

But in answering a separate question related to the Fed’s tools for exiting its extremely easy monetary policy, he suggested a rate hike was still a long ways off.

“I’m not going to put a time frame (on it) ... It will be quite some time,” he said.

The question over when the US central bank will first raise rates from the near-zero level they have been since late 2008 is critical to households and businesses alike as they make their plans for spending, investment and hiring.

Yellen has argued that clear communications about the Fed’s policy intentions are key.

With the goal of transparency in mind, the Fed since December 2012 had promised to keep rates low until the unemployment rate fell to at least 6.5 percent, as long as inflation did not threaten to rise above 2.5 percent.

But now that unemployment has fallen to 6.7 percent, and the Fed’s preferred gauge of inflation is still little more than half of its 2 percent target, policymakers this week decided to jettison that guideline. Reuters

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