Tags: federal reserve | bullard | bubble economy | rates

Bullard Warns of Asset Bubble Risk if Fed Keeps Rates Too Low

Friday, 30 January 2015 03:35 PM

U.S. central bankers risk inflating another asset-price bubble if they keep interest rates too low as unemployment falls, said St. Louis Fed President James Bullard.

Bullard said the “die is already cast” for the jobless rate to drop below the Federal Open Market Committee’s estimate for full employment of 5.2 percent to 5.5 percent regardless whether the Fed raises rates.

“You are already talking about a policy that is going to be slow moving over the next couple of years, against an economy that is going to run hot,” Bullard said in an interview Friday in New York.

William Dudley, president of the New York Fed, last year said the economy may need to run “a little hot” to lift inflation back toward the Fed’s 2 percent goal.

Bullard, despite his wariness, said didn’t see any evidence of an obvious bubble at the moment.

“I don’t think there’s anything on the scale of the housing bubble or the Internet bubble right now. The only candidate is bonds, government debt and other kinds of debt,” he said.

“I’m not counting that, I guess, because that’s us,” he said, referring to the Fed’s own-bond buying campaign that more than quadrupled its balance sheet to $4.5 trillion. The Fed ended purchases in October.

The last two times unemployment dove below economists’ estimates of full employment was in the late 1990s and in the mid-2000s.

The first occasion became associated with very high valuations in technology stocks, and the second coincided with strongly rising home prices.

Financial Crisis

Both episodes ended with the bubbles bursting and the U.S. economy in recession, Bullard noted, with the real-estate bust spiraling into a global financial crisis.

“The wisdom of going forward here and really pushing hard on this, given the recent history is, I think, one of the elephants in the room about American monetary policy,” he said.

The unemployment rate fell to 3.8 percent in April 2000 and to 4.4 percent in May 2007. It was 5.6 percent in December of last year, and economists forecast a report next week will show it slid to 5.5 percent in January.

Bullard argued for the central bank to raise interest rates from near zero as lower oil prices provide a strong boost to the economy this year.

Even as unemployment has fallen, U.S. central bankers have missed their 2 percent inflation target for 31 months.

Their preferred measure, the personal consumption expenditures price index, rose 1.2 percent in November from a year earlier, and economists surveyed by Bloomberg estimate it will remain low because of tumbling energy prices.

‘Tricky Call’

Bullard said the policy-setting FOMC faces a “tricky call” because if it delays raising the federal funds rate for too long, financial markets would probably start to price in a more aggressive pace of rate increases once it does begin rate increases.

“This will be a test,” Bullard said. “Once again, how are we going to react to mitigate the risk of bubbles?”

The St. Louis Fed president said he favors using both regulatory tools and monetary policy to stave off dangerous over-valuations in markets.

“I don’t think it is realistic to rely solely on macroprudential policy to keep this kind of situation in check,” he said.

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U.S. central bankers risk inflating another asset-price bubble if they keep interest rates too low as unemployment falls, said St. Louis Fed President James Bullard.
federal reserve, bullard, bubble economy, rates
Friday, 30 January 2015 03:35 PM
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