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Dudley Doesn’t See New Fed Buffers for U.S. Against Europe

Federal Reserve Bank of New York President William C. Dudley
Federal Reserve Bank of New York President William C. Dudley. Photographer: Andrew Harrer/Bloomberg

Federal Reserve Bank of New York President William Dudley said Europe has made significant progress in fiscal cutbacks and he doesn’t expect more Fed efforts to insulate the U.S. from the region’s debt crisis.

“While difficult work still lies ahead, countries in the euro area have made meaningful progress toward achieving long-term fiscal sustainability,” Dudley said in testimony today at a House Financial Services subcommittee hearing. “I do not anticipate further efforts by the Federal Reserve to address the potential spillover effects of Europe on the United States.”

Former European Central Bank Governing Council member Axel Weber said yesterday financial institutions shouldn’t count on additional three-year loans following more than 1 trillion euros ($1.3 trillion) in two long-term refinancing operations beginning in December. Italian Prime Minister Mario Monti warned that Spain may reignite the debt crisis, while Portugal bond yields are at levels suggesting traders expect another bailout.

“If economic conditions in Europe were to weaken significantly, demand for U.S. exports would decrease,” Dudley said. “This would hurt domestic growth and have a negative impact on U.S. jobs,” he said.

Financial deterioration in Europe could put pressure on the U.S. banking system, harm capital and liquidity buffers and impair the flow of credit to households and businesses, he said.

Credible Backstop

Dudley said it’s in the U.S. interest to ensure U.S. banks have access to U.S.-dollar funding and that swaps should create a credible backstop, rather than supplement private markets.

Dudley also said the central bank holds a very small amount of European sovereign debt and that he sees a “high bar” to additional purchases.

The standard for buying more European sovereign debt “is extraordinarily high for the U.S., for the Federal Reserve, to actually go out and buy foreign sovereign debt for its own portfolio, apart from the very small foreign exchange holdings that we have,” Dudley said.

Further, Dudley said the Fed’s international dollar-swap program has accomplished its desired goal of helping to maintain the flow of credit to U.S. households and businesses. Representative Ron Paul, a Republican from Texas, said the Fed’s swaps program is being used to “prop up a system that’s not viable.”

Crisis Hurt Economy

Dudley testified along with Steven Kamin, the director of international finance at the Fed’s Board of Governors in Washington, who said the European debt crisis has already hurt the U.S. economy.

“The financial stresses in Europe have undoubtedly spilled over to the United States by restraining our exports, weighing on business and consumer confidence, and adding to pressures on U.S. financial markets and institutions,” Kamin said.

“Strains have eased somewhat of late,” although further “disruptions” may harm the U.S., said Kamin, who is one of the three Board of Governors officials who brief the Fed’s Open Market Committee on interest rates and economic developments.

“Although the breadth and size of all of these effects on the U.S. economy are difficult to gauge, it is clear that the situation in Europe poses a significant risk to U.S. economic activity and bears close watching,” Kamin said.

Dudley said the U.S. economy is “ expanding at a moderate pace, and strains in global financial markets, although having eased recently, continue to pose significant downside risks to the economic outlook.”

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