Fed Sees Rate Low `for a Time’ Then Possible Reversal (Update1)
by Scott Lanman
(Bloomberg) Federal Reserve officials signaled they are prepared to quickly reverse last month’s interest-rate cuts after concluding that borrowing costs need to be kept low for now.
Policy makers cut their 2008 growth forecasts and said that rates should be held down “for a time,” minutes of their Jan. 29-30 meeting showed yesterday. They also called inflation “disappointing,” and some foresaw raising rates, possibly at a “rapid” pace once the economy recovers.
The threat goes beyond remarks by Chairman Ben S. Bernanke, who last week warned that policy will have to be “calibrated” over the next year to meet both inflation and growth objectives.
Yes, the issue is they believe an output gap greater than ‘zero’ is required to bring down inflation over time; so, they can’t afford to let the economy fully recover and grow at an inflationary pace.
So while they don’t want to allow a massive collapse, they also don’t want the output gap to be too narrow to bring down inflation.
This could mean, for example, a GDP growth rate speed limit of between 1% and 2% given current data points of GDP growth and coincident inflation.
That would mean achieving ‘stability’ at current GDP and employment levels rather than a ‘recovery’ to lower unemployment and 2.5%+ GDP.
With inflation expectations considered to be on the verge of elevating, the FOMC now faces elevating risks of both inflation and recession.
I know you don’t have much going for Pimco but I thought this synopsis by McCulley on the Taylor Rule was pretty good.
Changes in financial stability (willingness to lend) can lead to sudden changes in the neutral FF rate. The potential sudden changes would require an even larger gap from the zero bound.
That or my recommendation, bypass financial stability altogether by allowing all citizens to borrow directly from the Fed.
http://www.pimco.com/LeftNav/Featured+Market+Commentary/FF/2008/GCBF+02-2008.htm
if banks don’t think a borrower is credit worthy, they aren’t supposed to make the loan, regardless of the interest rate.
surely the fed doesn’t want banks to lend to those who don’t qualify due to perceived risk?
why would the fed want to lend direct to those rejected by banks?
what would he have the fed do, hire 50,000 loan officers to make loans to rejected credits???
if banks don’t think a borrower is credit worthy, they aren’t supposed to make the loan, regardless of the interest rate.
**the Fed has the power to turn any loan ‘bad’ and any borrower uncreditworthy by simply raising rates sufficiently.
surely the fed doesn’t want banks to lend to those who don’t qualify due to perceived risk?
**The Fed doesn’t want to bail out banks. Doesn’t seem they care who banks lend to until the bank has to be bailed out.
why would the fed want to lend direct to those rejected by banks?
**to fix a broken monetary mechanism. Currently the system beats the financial system over the head to slow the economy down and then ‘juices’ it up to get things going ( look at GS bonuses). Why not make the linkage more direct, less floppy?
what would he have the fed do, hire 50,000 loan officers to make loans to rejected credits???
**No. Citizenship should be the only qualification for a loan up to some set limit, say $10,000 at current fed funds rate. Then credit history takes over. Banks would borrow fed funds from its citizens. Turns the system on its head. Technology would make it possible for citizens to trade a wide spectrum of debt at Fed for new reserves.
Winslow
Instead of raising purchasing power by lending to citizens and continuing to manipulate ff rate (which, as you say, would give it direct power to make any loans go bad–seems to be a conflict of interest, at the very least), why not go with Warren’s twin proposals to set the overnight rate at zero and ensure minimum income levels via an employment guarantee? The latter has the added benefit of price stabilization.
Scott
Instead of raising purchasing power by lending to citizens and continuing to manipulate ff rate (which, as you say, would give it direct power to make any loans go bad–seems to be a conflict of interest, at the very least)
**I see it as the ‘next’ step for monetary policy. TAF auctions were a step in the right direction. I’ll bypass the ‘benefits’ of having ‘monetary’ as well as ‘fiscal’ policy. There a many reasons to go the direction of a citizen-based currency with citizen-based bankers especially with increasing globalization and the competition for offshoring wealth to nontaxable, remote locations.
, why not go with Warren’s twin proposals to set the overnight rate at zero and ensure minimum income levels via an employment guarantee? The latter has the added benefit of price stabilization.
** Great idea! The main problem is the political acceptability. Politically, how hard would it be to guarantee every citizen a job? Politically, how hard would it be to allow every citizens to collateralize tsy secs for fed funds at the fed funds rate? I’m for doing both – the present monetary tool is broken, just not sure we need to abolish it.
unsecured loans are one way of increasing agg demand, but not my first choice. And allowing each citizen a $10,000 unsecured non recourse loan might add about $2 trillion in demand plus multipliers the first year, which would probably result in triple digit inflation for a while.
Might even mean no Fed rate cut at the Mar 18 meeting, even though markets would likely demand one…
“unsecured loans are one way of increasing agg demand, but not my first choice. ”
**Add the ability to use tsy sec as collateral for more FF rate loans and you have citizen bankers.
“And allowing each citizen a $10,000 unsecured non recourse loan might add about $2 trillion in demand plus multipliers the first year, which would probably result in triple digit inflation for a while.”
**If not needed then the Fed puts the limit at $1000? Government fiscal policy is set to give out $600/person. $1000 non recourse loan at 3% would seem even more doable for $200 billion stimulus. No need for loan officers, just a social security number.
email me off line about this, thanks.
wmosler@valance.us