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Rosengren Says Low Inflation Risks Echoing Japan’s Malaise

Federal Reserve Bank of Boston President Eric Rosengren said inflation that has “persistently” stayed below the Fed’s goal is a concern and may suggest policy hasn’t done enough to support growth.

“The longer we in the U.S. remain so far below our 2 percent target, the greater the risk that inflation expectations could fall and real interest rates rise,” Rosengren said in the text of prepared remarks delivered in Milan today. Low inflation and high unemployment “could lead one to argue that policy has not been sufficiently accommodative.”

The Federal Open Market Committee said May 1 that it will increase or decrease the pace of its monthly bond-buying in response to changes in inflation and the labor market. Several officials in recent weeks have signaled concern about slowing inflation, which was at 1 percent in March as measured by the personal consumption expenditures index.

“My own assessment is there’s still a fair amount of capacity that we need to make up for, which is one reason I think it makes sense to have an accommodative policy to make sure we get the labor market to rebuild more quickly than it would,” Rosengren said in response to audience questions at the event.

Inflation Outlook

In his speech, he said the level “to which the inflation rate has fallen would actually be of some concern in the event that the economy was hit by a negative shock.” While price expectations have remained stable in the U.S., he cited the experience of Japan, “where low rates of inflation were not addressed.”

“A significant negative shock caused Japan to experience deflation, which has been quite difficult to reverse,” he said.

Rosengren said one reason U.S. inflation rate hasn’t fallen further “is because I think there have been inflation expectations that over the longer run the Federal Reserve will be successful in hitting the 2 percent target.”

“That has helped bound how low the inflation rate has gotten despite the very weak economy,” he said.

Bullard, Evans

St. Louis Fed President James Bullard is among policy makers who have said a further slowdown in inflation could prompt more asset purchases by the central bank. Inflation is “too low” though “it’s too early” to respond with a policy shift, Chicago Fed chief Charles Evans said May 9.

Rosengren, Bullard and Evans vote on monetary policy this year under the FOMC’s rotating system for presidents of regional Fed banks.

The FOMC affirmed its plan this month to keep buying $85 billion per month in Treasuries (USGG10YR) and mortgage securities, seeking to bolster growth and deliver a “substantially” improved labor market. The unemployment rate in April declined to 7.5 percent, which Rosengren said is “at least” 2 percentage points above his estimate of full employment.

Also speaking in Milan, Philadelphia Fed President Charles Plosser said his forecast for a falling unemployment rate would warrant ending bond purchases this year.

“Unless we see a significant reversal in current trends that jeopardizes my forecast of near 7 percent unemployment rate by the end of this year, then I anticipate that we could end the program before year-end,” He said. Plosser doesn’t vote on the FOMC until 2014.

Rosengren said recent cutbacks in government spending are among the reasons the Fed has missed its objectives of stable prices and full employment. Monetary stimulus has been “quite effective” at offsetting the drag from fiscal tightening.

“Given the economic realities I would urge policy makers to consider scenarios where some elements of fiscal rebalancing take effect only after the economy has more fully improved, and the possibility of a less restrictive fiscal stance until that time,” he said. “The Federal Reserve should, and will, continue to consider the likely state of fiscal policy, like many other economic factors, in making monetary policy.”

To contact the reporters on this story: Aki Ito in San Francisco at aito16@bloomberg.net; Scott Hamilton in London at shamilton8@bloomberg.net

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

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