Fissures at the Federal Reserve over the correct course of future monetary policy were on display Monday, with one top policymaker calling for further easing even as another suggested tighter policy may be needed.
Jeffrey Lacker, the Richmond Fed's hawkish president, acknowledged that inflation is likely to ebb in coming months as pressures from high energy and commodity prices ease. But he warned that inflation remained a threat.
My sense is that we should not be adding monetary stimulus at this point, Lacker said in response to questions from reporters. A case could be made that withdrawing stimulus may be warranted soon.
Lacker, who was speaking in Salisbury, Maryland, rotates into a voting spot on the Fed's policy-setting panel next year.
Speaking in Detroit, Charles Evans, the Chicago Fed's dovish chief, said some temporary increase in inflation may be the price the nation must pay if Fed policy is to reduce joblessness.
The Fed should step up its campaign to boost what he called a withering economy with a vow to keep interest rates at zero until the jobless rate falls below 7 percent, Evans said.
If that does not work fast enough, the Fed should return to buying bonds to push down long-term rates, he said.
Given how badly we are doing on our employment mandate, we need to be willing to take a risk on inflation going modestly higher in the short run if that is a consequence of policies aimed at lowering unemployment, said Evans, who has a policy-setting vote this year.
Rather than fighting the inflation ghosts of the 1970s, I am more worried about repeating the mistakes of the 1930s, when the Fed failed to see that its monetary policy was unduly restricting growth, he said.
The central bank last month committed to selling $400 billion in short-term Treasuries in order to buy longer-dated government bonds. The move, known as Operation Twist, drew three dissents, as did a Fed promise in August to keep rates low through at least mid-2013.
While Lacker argued that such open dissent was a sign of healthy internal debate, not a fractured central bank, Evans suggested that calls by fellow policymakers for tighter rather than looser monetary policy may be undercutting the Fed's efforts to stimulate the economy.
Financial markets are going to look at the entire breadth of the commentary and come up with their own assessment of what that means for the probability of a premature exiting from our current stance, Evans told reporters after his speech. To the extent that they put more weight on that, that means that we are not going to be as accommodative as I believe our current intentions are.
To emphasize the severity of the employment situation, Evans included in his otherwise pedestrian slides an emoticon with flames coming out the top of the head.
The Fed could keep inflation in check by watching the medium-term outlook, he said. If the inflation outlook rose above 3 percent, he said, the Fed would start tightening policy, even if the jobless rate has not fallen below 7 percent.
Evans' remarks amounted to the strongest call yet for more monetary policy easing just weeks before the central bank's policy-setting panel next meets, on November 1 and 2. Fed Chairman Ben Bernanke is due to speak on Tuesday.
The U.S. economy has remained anemic this year despite hopes for a pick-up in the pace of expansion. Gross domestic product expanded under 1 percent in the first half of the year, while unemployment has remained stuck above 9 percent for several months.
This backdrop, coupled with financial market strains emanating from Europe, have kept up the pressure on the Fed to continue providing support to the economy, despite its already unprecedented efforts to that effect in response to the Great Recession.
The Fed has not only slashed benchmark interest rates to effectively zero, but also purchased some $2.3 trillion in government and mortgage-backed securities to support a fragile recovery.
If the Fed adopts a policy trigger tied to the unemployment rate, Evans said, he would also favor adopting a formal inflation target of 2 percent to further cement expectations.