Kocherlakota: Recent easing hurts Fed credibility

By @ibtimes on

Recent Federal Reserve moves aimed at bolstering a slow but intact recovery reduce the central bank's credibility and ultimately its ability to keep inflation in check and unemployment low, a top Fed official said on Thursday.

The Fed should ease monetary policy further only if the economy worsens, Minneapolis Federal Reserve Bank President Narayana Kocherlakota said at a lunch held at the County Fairgrounds in Sidney, Montana.

Easing policy even as inflation returns to near the Fed's target and unemployment falls is inconsistent with a systematic pursuit of its communicated objectives, he told the group, which included bankers and workers in the area's booming oil industry.

It follows that these actions diminish the Committee's credibility and so reduce the effectiveness of future Committee actions and communications, he said.

The Fed has kept interest rates near zero since December 2008 and bought $2.3 trillion in long-term securities to boost the economy further, moves that Kocherlakota said helped keep the economy from stumbling even worse than it did.

Last month, citing significant downside risks to the economy, the Fed's policy-setting Federal Open Market Committee took a further step, deciding to rebalance the Fed's portfolio by selling short-term securities and buying longer-term ones in an effort to push down longer-term borrowing costs and spur spending.

That move followed a decision in August to keep interest rates low through at least mid-2013.

Kocherlakota was one of three Fed officials who dissented at the last two meetings.

Unlike fellow dissenter Dallas Fed President Richard Fisher, who said he voted against the move because he thought it would have little impact, Kocherlakota did not quibble with the effectiveness of the policy, known as Operation Twist.

It's not a game changer by any means, he said in response to an audience question. But just like outright Fed bond-buying, the Twist lowers interest rates, in this case by the equivalent of a cut in the Fed's policy rate by about 50 basis points, he said.

Minutes from the most recent meeting, released on Wednesday, show two policymakers advocated for even stronger easing measures.

But Kocherlakota said that was the wrong approach.

Unemployment, while still at a disturbingly high 9.1 percent, has come down since the Fed began a second round of bond buying last November, he said.

Meanwhile inflation, which last November was uncomfortably low, has risen -- to 1.6 percent, as measured by the Fed's preferred gauge.

Given improvements on both the inflation and jobs fronts, Kocherlakota said, the Committee should have lowered the level of monetary accommodation over the course of the year, he said.

Doing the opposite hurts the central bank's credibility, which is key to its ability to meet its goals of keeping prices stable and unemployment low, he said,

Since the Great Recession, the Fed has done remarkably well on its price stability mandate, Kocherlakota said. And while the jobless rate is still high, the Fed could not have lowered it any further without pushing inflation above its 2-percent target.

Although the recovery has been slower than expected, that in itself is not enough to justify further easing, he said.

The FOMC should only increase accommodation if the economy's performance, relative to the dual mandate, actually worsens over time, he said.

(Reporting by Ann Saphir, Editing by Chizu Nomiyama)

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