Federal Reserve Vice Chairman Janet Yellen said the U.S. must address its budget deficit to protect the nation’s economy from risks including a slowdown in growth.
“Charting a sensible course for the federal budget is an essential but formidable task for U.S. policy makers,” Yellen, 64, said in a speech in New York today. “If current policy settings are maintained, the budget will be on an unsustainable path,” and “a failure to address these challenges would expose the United States to serious economic costs and risks.”
While the Fed’s program to purchase $600 billion of Treasuries through June will help stimulate growth, it is “hardly a panacea” and would benefit from fiscal support, Yellen said.
The Fed faces some of its bitterest political criticism in three decades following its Nov. 3 decision to purchase the securities. Chairman Ben S. Bernanke and other Fed officials have defended the decision to buy about $75 billion in securities a month through June to combat too-low inflation and a jobless rate that’s stuck near 10 percent.
Yellen said she “strongly supported” the Fed’s bond purchase program, known as quantitative easing, because it will be “helpful in strengthening the recovery.” The unemployment rate is “likely to remain high for some time” and underlying inflation is below the Fed’s mandate, she said.
Reason to Act
Disinflation is “highly undesirable and it’s part of our motivation to act,” Yellen said in response to audience questions. While the risk of outright deflation is not “very great at all” and a “tail risk,” disinflation is “a problem,” she said.
The consumer-price index increased by 1.2 percent in the 12 months ended in October. Most members of the Federal Open Market Committee consider an inflation rate of 2 percent consistent with their goal of price stability, Yellen said.
“A fiscal program that combines a focus on pro-growth policies in the near term with concrete steps to reduce longer-term budget deficits could be a valuable complement to our efforts,” Yellen said.
The Congressional Budget Office estimated in August that the deficit this fiscal year will exceed $1 trillion for a third time. The budget shortfall will amount to 7 percent of the nation’s gross domestic product, the nonpartisan agency’s semi-annual budget report projected.
Tightening fiscal policy “prematurely” would damage an economy that “continues to be impaired by the lingering effects of the financial crisis,” Yellen said.
“We need, and I believe there is scope for, an approach to fiscal policy that puts in place a well-timed and credible plan to bring deficits down to sustainable levels over the medium and long terms while also addressing the economy’s short-term needs,” Yellen said.
The Fed’s bond purchase program has been criticized by officials in countries including China and Germany. A letter from 23 people, including former Republican officials and economists, urged the Fed to end the program early, asserting that it will cause prices to surge.
Yellen said she is “confident” that the central bank has “both the commitment and the tools” to remove stimulus from the economy when necessary to “maintain price stability and keep inflation expectations well anchored.”