Federal Reserve Bank of Kansas City President Esther George, who has dissented against record stimulus at every policy meeting this year, urged the Fed to reduce its $85 billion in monthly bond buying as growth quickens and low interest rates prompt investors to take on more risk.
“In light of improving economic conditions, I support slowing the pace of asset purchases as an appropriate next step for monetary policy,” George, 55, said in the text of a speech in Santa Fe, New Mexico. She was unable to speak because of illness. “Waiting too long to acknowledge the economy’s progress and prepare markets for more-normal policy settings carries no less risk than tightening too soon,” she said.
George, in her first year as a Federal Open Market Committee voter, has opposed continuing monthly purchases of $40 billion in mortgage-backed securities and $45 billion in Treasurys, saying record stimulus may destabilize financial markets and push up long-term inflation expectations.
Fed officials are debating when to slow the bond buying, with San Francisco Fed President John Williams saying yesterday a “modest adjustment downward” in the bond buying is possible as “early as this summer.” Atlanta Fed President Dennis Lockhart said “very mixed” economic data makes him “more cautious” about a near-term reduction in purchases.
The yield on the benchmark 10-year Treasury note increased 0.01 percentage point to 2.13 percent at 2:35 p.m. in New York, while the Standard & Poor’s 500 Index fell 0.7 percent to 1,628.49.
George said improvements in unemployment, consumer spending and business spending are helping drive the four-year-old expansion. The economy will probably grow about 2 percent this year with “low inflation,” she said. In turn, the unemployment rate will continue to fall. She predicts growth of about 3 percent next year.
Still, monetary policy can’t be counted on to help the job market “singlehandedly” when regulatory “uncertainty,” including health-care reform, is prompting businesses to be more cautious, she said.
“A slowing in the pace of purchases could be viewed as applying less pressure to the gas pedal, rather than stepping on the brake,” George said. “It would importantly begin to lay the groundwork for a period when markets can prepare to function in a way that is far less dependent on central bank actions and allow them to resume their most essential roles of price discovery and resource allocation.”
The Kansas City Fed chief cited signs of overheating in asset markets, including margin accounts at broker-dealers at a record in April, and leveraged loans, or packages of higher-risk commercial loans, at an all-time high earlier this year.
“Investors are borrowing at very low rates of interest to purchase riskier financial assets,” she said. “Presumably, some investors are pursuing this strategy because they anticipate that loans will continue to be available at very low rates of interest, which will allow them to ride out any market volatility.”
George isn’t alone among Fed officials expressing concern that low interest rates may cause market imbalances. Governor Jeremy Stein said some credit markets, such as corporate debt, show signs of potentially excessive risk-taking. “We are seeing a fairly significant pattern of reaching-for-yield behavior emerging in corporate credit,” Stein said in February.
Manufacturing in the U.S. unexpectedly contracted in May at the fastest pace in four years, the Institute for Supply Management’s factory index showed yesterday. The index fell to 49 from the prior month’s 50.7, with 50 the dividing line between growth and contraction.
Employers probably added 168,000 workers last month and the unemployment rate held at a four-year low of 7.5 percent, according to a Bloomberg News survey of economists ahead of a government report June 7.
The FOMC said May 1 it will continue buying bonds “until the outlook for the labor market has improved substantially.” It also left unchanged its statement that it plans to hold its target interest rate near zero as long as unemployment remains above 6.5 percent and the outlook for inflation doesn’t exceed 2.5 percent.
George, who became chief of the Kansas City Fed in 2011, was the Fed district bank’s No. 2 official under Thomas Hoenig, now vice chairman of the Federal Deposit Insurance Corp. She joined the Fed in 1982 and spent much of her career in bank supervision.
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