Plosser Warns Fed Shouldn’t Try to Offset Potential GDP LossSteve Matthews and Jeff Kearns
Federal Reserve Bank of Philadelphia President Charles Plosser, an opponent of bond purchases by the Fed, said policy makers shouldn’t try to make up for a permanent loss in potential growth caused by the financial crisis.
“Efforts to use monetary policy to offset such permanent shocks and to close what appears to be a gap will likely be ineffective and perhaps even counterproductive,” Plosser said today in a speech in Philadelphia.
“The real economy must ultimately adjust to such permanent shocks,” he said to the Korea-America Economic Association. “Monetary policy cannot offset the costs or the necessity of such real adjustments.”
Plosser, who votes on monetary policy this year, opposed the Fed’s second and third round of bond buying, saying they increased a risk of future inflation while doing little to boost growth. In contrast, Boston Fed President Eric Rosengren, speaking at the same conference, said policy makers shouldn’t rush to cut stimulus with inflation below their 2 percent goal.
Consumer prices rose 0.9 percent in November from a year earlier, according to an inflation measure watched by the Fed.
The Federal Open Market Committee last month trimmed its monthly bond purchases to $75 billion from $85 billion, taking the first step toward unwinding the unprecedented stimulus that Fed Chairman Ben S. Bernanke put in place to spur growth.
“It was the right move,” Plosser said to reporters. “I would have liked to have done it sooner, but I’m pleased that we have taken this step in the right direction.”
Plosser said he favors tapering bond purchases at a faster pace than $10 billion per meeting.
“There’s no reason we shouldn’t consider speeding the process up,” he said. “I have no problem with sort of gradually unwinding it, but my preference would be to move a little quicker and end it sooner rather than later.”
He said in his speech that an enduring loss in wealth and output would help to explain why U.S. growth has fallen short of the Fed’s forecasts since the recession ended in June 2009. His comments echoed the view of St. Louis Fed President James Bullard, who in September 2012 said growth may not return to “the bubble-induced, pre-crisis path” because of a permanent loss of wealth.
Rosengren, who cast the lone dissent last month against a Fed decision to taper bond buying, argued against a rapid wind-down in stimulus, noting that the Fed is falling short on its mandate to ensure price stability and full employment.
“With the inflation rate below target and the unemployment rate significantly above target, we believe strongly that monetary policy makers have the opportunity to be patient in removing accommodation,” Rosengren said at the annual meeting of the American Economic Association. “This was one of the motivations for my dissenting vote.”
Policy makers -- scheduled to meet Jan. 28-29 -- will probably reduce purchases in $10 billion increments over the next seven meetings before ending them in December, according to a Bloomberg News survey of economists after the FOMC announced its tapering on Dec. 18. The Fed through bond buying has expanded its balance sheet to $4.02 trillion.
“Even if we were not significantly undershooting our inflation target, there would still be a significant argument for monetary policy remaining highly accommodative,” said Rosengren, who doesn’t vote on policy this year.
Federal Reserve Bank of New York President William C. Dudley, speaking during a panel discussion, said more work is needed to explain how bond buying by the Fed has helped support the recovery.
“We don’t understand fully how large-scale asset purchase programs work to ease financial market conditions,” he said. “Is it the effect of the purchases on the portfolios of private investors, or alternatively is the major channel one of signaling?”
The New York Fed leader also said central bank economists confront a “riddle” on whether the decline in U.S. unemployment to 7 percent in November will reverse as more workers return to the labor force.
Dudley said the Fed may decide to extend a program involving so-called reverse repurchase transactions aimed at giving it greater control over short-term borrowing costs.
The new tool, called the fixed-rate, full-allotment overnight reverse repurchase facility, is intended to put a floor under short-term money-market rates. It allows banks, broker-dealers, money-market funds and some government-sponsored enterprises to lend the Fed unlimited amounts of cash overnight at a fixed rate in exchange for borrowing Treasuries in reverse repo transactions.
“We could decide at some future date to make it operational,” Dudley said in response to an audience question.
Bernanke said yesterday in a speech at the conference that headwinds that have held back the economy may be abating, leaving the country poised for faster growth as his tenure as Fed chairman comes to an end.
“The combination of financial healing, greater balance in the housing market, less fiscal restraint, and, of course, continued monetary policy accommodation bodes well for U.S. economic growth in coming quarters,” Bernanke said.
Fed Vice Chairman Janet Yellen has been nominated to succeed Bernanke, whose term ends Jan. 31. The Senate vote on her nomination is scheduled for Jan. 6.