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Fed’s Lacker Warns More Bond Purchases Risk Inflation

Federal Reserve Bank of Richmond President Jeffrey Lacker said he opposes additional purchases of securities by the central bank because they will complicate an eventual exit from record stimulus and risk a surge in inflation.

“We cannot continually buy more securities and create more bank reserves without jeopardizing our inflation goal,” Lacker said in the text of a speech today in Charleston, West Virginia. “In my view, the balance of considerations suggests that we should be standing pat now rather than easing policy further.”

The Richmond Fed chief was the only policy maker to cast a dissenting vote at the Federal Open Market Committee’s Oct. 23-24 meeting, at which officials maintained $40 billion in monthly purchases of mortgage-backed securities and repeated that interest rates will probably stay near zero at least through mid-2015. He has dissented from every FOMC decision this year.

A number of Fed officials said the central bank may need to expand its monthly purchases of bonds next year after the expiration of Operation Twist, according to minutes of their last meeting released yesterday.

“The larger our balance sheet when the time comes to withdraw monetary stimulus, the more difficult and risky that process will be,” Lacker said at the West Virginia Economic Outlook Conference. While the Fed has tools to unwind stimulus and avoid inflation, “we are in unchartered territory,” making getting the timing right difficult, he said.

Bullard, Option

The central bank each month is also swapping $45 billion in short-term Treasuries for longer-term debt. The program is likely to end on schedule in December, though purchasing Treasuries outright “is definitely an option on the table,” St. Louis Fed President James Bullard said last week.

Growth is likely to continue at an annual rate of at least 2 percent and may accelerate toward the end of 2013, Lacker said. European recession and “fiscal challenges” in the U.S. pose risks to the outlook, he said.

A comprehensive change in the budget outlook brought about by passage of something similar to the proposal of President Obama’s deficit commission, or “some grand bargain” with Congress, could result in an acceleration of U.S. growth by “half a percent,” Lacker said in response to audience questions.

“We could get 3 percent or more growth,” Lacker said. “On the other hand, if the can gets kicked further down the road or we go off the fiscal cliff,” a recession could occur, he said.

Fiscal Cliff

The so-called fiscal cliff refers to the $607 billion of tax increases and spending cuts that will kick in automatically at the end of the year unless Congress acts. The Congressional Budget Office said in an Aug. 22 economic report that fiscal tightening of that magnitude could cause a recession.

Inflation is likely to average around 2 percent “or a little less,” in line with the Fed’s target, over the next year or two, he said in his prepared remarks.

“Monetary policy is primarily about inflation,” he said. “While U.S. inflation is the responsibility of the Federal Reserve, real economic growth and labor market conditions are affected by a wide range of factors outside the Fed’s control.”

Monetary Stimulus

“It’s unfortunate, but the effects of monetary stimulus on real output and employment are less than is widely thought,” Lacker said.

Some Fed district bank presidents disagree with Lacker on the benefits of more easing. Boston Fed President Eric Rosengren said on Nov. 1 the central bank should buy mortgage bonds until the jobless rate falls from 7.9 percent to 7.25 percent and hold the target interest rate near zero until hitting 6.5 percent unemployment.

San Francisco Fed President John Williams, who votes on policy this year, said on Nov. 5 the central bank should press on with $40 billion in bond buying each month until it purchases a total of at least $600 billion.

Download: Fed's Bullard Says Policy May Be Too Accommodative

Download: Lacker Opposes Further Bond Purchases

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