Hoenig Says Fed’s Low Interest-Rate Policy Subsidizes Wall Street Banks

The U.S. central bank’s policy of holding interest rates near zero is a subsidy for large banks and redistributes wealth from savers to debtors, said Thomas Hoenig, president of the Federal Reserve Bank of Kansas City.

Banks can borrow at 0.25 percent and buy Treasury bonds that yield 3 percent, keeping the difference. “It provides them a means to generate earnings and restore capital, but it also reflects a subsidy to their operations,” he said to the House Subcommittee on Domestic Monetary Policy and Technology today in Washington.

“It is not the Federal Reserve’s job to pave the yield curve with guaranteed returns for any sector of the economy, and we should not be guaranteeing a return for Wall Street or any special interest group,” he said.

Hoenig, who doesn’t vote on monetary policy this year, has repeatedly urged the central bank to tighten monetary policy to limit inflation and avert the emergence of asset price bubbles. He voted eight straight times in 2010 against record stimulus led by Chairman Ben S. Bernanke, tying former Governor Henry Wallich’s record in 1980 for most dissents in a single year.

He repeated those arguments today in his appearance before the subcommittee chaired by Texas Representative Ron Paul, the Republican who wrote the book “End the Fed.”

The Fed’s policy also “increases the risk of misallocating real resources, creating a new set of imbalances or possibly a new set of bubbles,” Hoenig said.

Subsidies for Borrowers

The central bank’s policy of holding rates near zero also “redistributes wealth in this country from the saver to debtor by pushing interest rates on deposits and other types of assets below what they would otherwise be,” he said. The effect “requires savers and those on fixed incomes to subsidize borrowers.”

The Federal Open Market Committee voted on June 22 to conclude its $600 billion bond-buying program as scheduled and maintain its balance sheet near record levels. The FOMC also affirmed its pledge to keep its target interest rate near zero for an “extended period.” The rate has been in a range of zero to 0.25 percent since December 2008.

Hoenig said the debate in Congress on the U.S. debt ceiling is distracting lawmakers from issues such as how to boost manufacturing jobs.

“By not being able to pay attention to that in the Congress and elsewhere, I think we are handicapping ourselves in an international, global competitive market,” he said.

Debt Downgrade

He also said that a downgrade of the U.S. government debt by ratings companies could reduce the value of the central bank’s holdings of Treasury debt.

“If it’s downgraded and it doesn’t affect the market pricing on those securities, because they have confidence that the Congress of the United States will come to a correct solution on that, I don’t think it will have much effect at all on our solvency,” Hoenig said. “If the Congress fails to act, then it will have a more lasting effect.”

In response to questions from Congress, Hoenig said that the central bank adopted communications guidelines at its last meeting in part to stem leaks to news media over prospective monetary-policy decisions.

“I raised objections to those kind of leaks and asked that they’d be vigorously pursued,” Hoenig said, identifying the Wall Street Journal. “I don’t think any of the members should disclose confidential information or leak to the media in advance.”

Fed Meeting

Hoenig mentioned the newspaper in an Aug. 13, 2010 speech, three days after an FOMC meeting in which the committee announced it would reinvest the proceeds of maturing mortgage debt by purchasing Treasury securities.

Hoenig said at the time that “before this week’s FOMC meeting, The Wall Street Journal wrote that the Fed would add more stimulus into the economy -- including the purchase of long-term treasuries. It turns out that reporter was remarkably prescient.”

Earlier this year, Hoenig, the central bank’s longest- serving policy maker, announced plans to retire on Oct. 1 after a 20-year career as leader of the Kansas City Fed. He is required under internal Fed rules to retire at age 65, an age he will reach in September.

To contact the reporter on this story: Joshua Zumbrun in Washington at jzumbrun@bloomberg.net

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net

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