Stein Says Fed Should Tie QE Taper to Labor Market GaugeJoshua Zumbrun and Jeff Black
Federal Reserve Governor Jeremy Stein, who has backed record stimulus, said the Fed should more closely link the winding down of its $85 billion in monthly bond purchases to economic data such as the jobless rate.
“My personal preference would be to make future step-downs a completely deterministic function of a labor market indicator, such as the unemployment rate or cumulative payroll growth over some period,” Stein said today in a speech in Frankfurt. “For example, one could cut monthly purchases by a set amount for each further 10 basis point decline in the unemployment rate.” Ten basis points equal 0.1 percentage point.
The Federal Open Market Committee refrained from reducing the pace of bond purchases at its Sept. 17-18 policy meeting, choosing to “await more evidence that progress will be sustained.” The unemployment rate has fallen to 7.3 percent in August from 8.1 percent when the Fed began buying mortgage bonds a year ago.
A Bloomberg survey of economists before the meeting showed that economists expected a small reduction in the pace of purchases in September, according to the median estimate. Stein said his colleagues on the FOMC didn’t intend to catch markets off guard by maintaining the program at the same buying pace.
“Nobody was doing something to intentionally surprise the market,” Stein said in response to an audience question, although “there may be disagreement about the right policy.”
“Nobody, I can assure you, was thinking, ‘Let’s do this because it doesn’t communicate well,’” he said. “The most important thing is to get the policy right and, as a second order thing, let’s try not to surprise.”
U.S. stocks rose today following an unexpected drop in jobless claims that overshadowed growing concern that a budget impasse could hurt the recovery. The Standard & Poor’s 500 Index rose 0.2 percent to 1,696.84 at 11:59 a.m. in New York.
The Fed has said it will maintain asset purchases until the labor market has “improved substantially,” without defining that phrase.
Chairman Ben S. Bernanke has said the unemployment rate can be a flawed metric of labor market health because it doesn’t measure unemployed workers who are so discouraged they’ve dropped out of the labor market. Bernanke said Sept. 18 that the measure “is not by itself a fully representative indicator.”
Tying QE to improvement in unemployment would reduce confusion in financial markets, Stein said.
“This approach would help to reduce uncertainty about our reaction function and the attendant market volatility,” Stein said. “Moreover, we would still retain the flexibility to respond to other contingencies -- such as declines in labor force participation -- via our other more conventional policy tool,” he said, referring to the Fed’s target interest rate.
While Stein has never dissented from a decision of the FOMC to press on with stimulus, he has said the Fed risks generating asset bubbles, and that central bankers should sometimes consider raising interest rates to combat financial instability if regulation proves inadequate for the task.
“I would have been comfortable with the FOMC’s beginning to taper its asset purchases at the September meeting,” Stein said. “But whether we start in September or a bit later is not in itself the key issue -- the difference in the overall amount of securities we buy will be modest.”
“What is much more important is doing everything we can to ensure that this difficult transition is implemented in as transparent and predictable a manner as possible,” he said. “On this front, I think it is safe to say that there may be room for improvement.”
Fed communications about its plan to reduce bond purchases has prompted to an increase in bond yields. The yield on the 10-year Treasury note has risen as high as 3.01 percent earlier this month from 1.63 percent in early May. The national average 30-year mortgage has risen to 4.5 percent from 3.35 percent in May.
“The adjustment has been a healthy one,” Stein said.
“We are currently in a pretty good place with respect to the pricing of interest rate risk,” he said.
Yields have moved “closer into line with historical norms,” he said, adding there’s less “risk of a more damaging upward spike at some future date.”
Jeff Black in Frankfurt at email@example.com;