NY Fed President Dudley says it is "premature" to discuss when the Fed will exit
New York Federal Reserve President Dudley argued that it is "premature" to discuss when the Fed will exit from its current stance of accommodative policy. He believes that the "balance of risks is still tilted toward weakness in growth and employment and not toward higher inflation." He expects moderate growth in the second half of the year, but that the recovery will be "considerably slower than usual" primarily due to sluggish consumer spending. He notes three strains on consumers: 1) real disposable income to fall through year-end; 2) households need to adjust to the sharp drop in net worth; 3) credit availability will be constrained for some time.
Dudley also explained, in detail, why the Fed's large balance sheet does not necessarily create upward inflation pressure. Since the Fed has the ability to pay interest on reserves, it can prevent excess reserves from leading to excess credit creation. Banks will prefer to keep their excess reserves on deposit with the Fed, implying that the interest rate on excess reserves (IOER) effectively becomes the risk-free rate. Dudley also explained that the Fed does have the ability to drain reserves (adjusting the composition of liabilities) through reverse repos and Treasury Supplementary Financing proceeds. Unlike Fed Chairman Bernanke, Dudley did not mention the possibility of bank term deposits.
While the Fed's balance sheet expansion has had notable benefits, Dudley acknowledged the negative implications. He mentioned three: 1) Fed's asset-buying program created concerns that the Fed was monetizing the debt, which had the potential to hurt Fed credibility and create inflation expectations; 2) excess reserves affect bank leverage ratios and could diminish willingness to lend; 3) Fed is assuming interest-rate risk. Dudley concluded by assuring that the Fed is committed to its dual mandate of price stability and full employment.
|
Linear Mode
