Politics

Plosser: Continued ZIRP May Not Heal Job Market

Philadelphia Federal Reserve President Charles Plosser told Bloomberg Radio host Kathleen Hays in Jackson Hole, WY today that monetary policy may not solve problems facing the U.S. labor market.

Plosser: Continued ZIRP May Not Heal Job Market

Plosser said, “I’m very uncomfortable with the notion that we have to keep monetary policy at zero interest rates until the labor market has healed completely.”

He also wants Fed guidance changed to signal a rate increase sooner than currently suggested: “The longer we wait, the bigger we risk we’ll have to raise interest rates faster when the time comes” and quicker rate increases would be “more traumatic” for financial markets.

Plosser Sees FOMC Concern About Reverse Repo Program

Plosser: Continued ZIRP May Not Heal Job Market – Transcript

KATHLEEN HAYS, BLOOMBERG RADIO:  You made a bit of a splash with your dissent on the language on forward guidance, pledging the Fed to keep rates low for a considerable period of time. Explain to our listeners why this “considerable period of time” phrase is so important that you dissented on it.

CHARLES PLOSSER, PRESIDENT, FEDERAL RESERVE BANK OF PHILADELPHIA:  Well, I think it’s important because it’s a considerable period of time after we stop purchasing assets, is the — is the language.

And that means that it’s bad policy and — to begin with, from my perspective, because it talks about calendar time.  And what we really ought to be talking about is data, what is the data telling us and how should we going to — how we’re going to use the data to decide when to start raising interest rates.

And my feeling is, is that since we began the taper so to speak back in last December or January, we’re way ahead on the data compared to where we thought we’d be.  In fact, if you go back to December and look at the summary of economic projections that the FOMC puts out each quarter, we’re about a year or a year and a half ahead of where we thought we would be last January.

And yet our policy hasn’t changed.  So are we data dependent or not?

And my argument would be that we are data dependent.  We should be data dependent.  And what that means is that we need to change the language of our policies and react to that data.

And I think it’s time we did that.  And so we could have, with better data, you could say, well, we’ll end the taper — or we’ll end quantitative easing sooner and leave considerable period of time.  That would have brought — that would have been a reaction to the data.  But we haven’t done that.  So  we haven’t changed our pace of taper and we haven’t changed our forward guidance about when we would raise rates after the taper was over.

HAYS:  Well, is it possible — and is this what maybe the Fed started to talk about very intensely at the last meeting, looking at this very question you dissented on.  You could remove considerable period of time.  You watch the data.  Oh.  All of a sudden, the data weakens.  I — and then the Fed doesn’t move.

Right now the markets seem to be thinking that when you remove considerable period of time, you are on the verge of raising interest rates.

PLOSSER:  Maybe. I mean, we should be talking about what the data are telling us and so I’ve been a very strong advocate for more rules-based policy.  And what rules-based policies tell you how to set the interest rate based on the data.

So if the data don’t change in the right way, then why should we raise rates?

But I would rather us get started raising rates sooner and raise them more gradually than to put it off, put it off, put it off until we are — have to raise them and we may have to raise them very quickly in response.

HAYS:  Well, is it fair to say then that the removal of considerable period of time means that that is the Fed — is — that’s the prelude to the first interest rate increase?

PLOSSER:  Well, it’s a changing of the forward guidance, is to sort of how we’re thinking about it.  It has to be a prelude in some sense.  It’s because it hasn’t happened yet.

(LAUGHTER)

PLOSSER:  So we will have to raise rates at some point.  But the longer we wait to begin signaling that, the  more traumatic the adjustment’s going to be in the financial markets, I think.

HAYS:  Why are you so concerned about waiting to raise interest rates?  It looks to me like we’re not talking about a long time.  I spoke to Dennis Lockhart here in Jackson Hole, he still says June 2015 looks about right to him.  You know very well Jim Bullard says, oh, he thinks it’s more like March 2015.

Are we splitting hairs here?

PLOSSER:  Well, we have to change the language in our statement, because the language in the statement is not reflecting either of those statements necessarily or may not be.  We haven’t — we haven’t clarified it.

So our language is confusing.  We are sending our official policy statement that says we will wait a considerable period of time, whatever that means — and it may mean different things to different people, which is, in some sense, the beauty of it — but we haven’t changed that despite the fact that the economy has changed dramatically since last December.

So how can we justify keeping the same official stance of policy when the economy’s changed as much as it has?

HAYS:  Well, let’s give our listeners some numbers then, because there are definitely people out there who are skeptics.  Charles Plosser’s got it all wrong.  He’s a hawk.  He just dissented because he didn’t get his way on interest rates.

So give our listeners some of your reasoning.  Give me a couple of those — really those numbers are just screaming, look, the economy is changed; our language hasn’t.

PLOSSER:  Well, in December of last year when we started the taper, which we claimed was going to be data dependent, our projection of the — at the FOMC, the SEP, said we would reach — we would not reach a 6 percent unemployment rate until the end of — almost the end of 2015.  We’re there already.

We thought inflation would not rise back towards 2 percent.  It’s almost there.  OK?  It has risen back faster.

So our projections about the path of the economy going forward back last December was that we wouldn’t be where we are today until nearly the end of 2015.  So things have changed.  Things have changed relative to our own expectations.  And yet we haven’t changed policy.

HAYS:  What is the risk of waiting an extra three months, an extra six months?

You’ve warned of dire consequences.

PLOSSER:  Well, the dire consequences are — the consequences are we get behind.  So I’ll put it in two different ways.

One is many people suggest that we can’t leave the zero interest rates until we’ve reached our goals.  I think that’s very dangerous.  Nowhere in history do we — would we say that we would keep zero interest rates until we are happy with everything in the economy and everything in the labor market.  That’s not the way to conduct monetary policy.

The second thing is is that the longer we wait, the bigger we risk the fact that we’ll have to raise interest rates faster when the time comes.  We have a very large balance sheet that’s providing accommodation and we have chosen to keep the balance sheet large.  That means we have to raise interest rates more than we otherwise would do.

I’m worried that, in fact, we may find ourselves in the old — what we used to call — and you remember this, Kathleen, go-stop policies, slamming on the accelerator to get the economy going and slamming on the brakes hard because we have to slow down something else.

HAYS:  What about the pace of interest rate increases?  There’s certain assumption among some, particularly in the bond market, who’ve been through Fed cycles before, that one of the reasons this could have a very strong impact on bond yields isn’t — you could say, so what, the Fed raises the key rate 25 basis points and then maybe another 25 basis points.

Why should that move bond yields much?

You say, ah, but when the Fed starts moving, they keep moving.  And that’s why bonds are going to have to adjust.

What about that assumption?  And what about the speed?  Will the speed of the interest rate increase also be data dependent?

PLOSSER:  Should be, absolutely.  It should be data dependent.

But the further we get away from where — let’s call it the appropriate setting of policy ought to be, the further we are from that when we start.

We have more catch-up to do.  So I think you’re right.  The bond market will adjust.  But bond market yields rise through every expansion.  So it’s not unusual to spot interest rates going up.  We seem to have this notion that we — the interest rates can’t rise because it’ll destroy the economy.

But history suggests that’s just not true.  So my own preference would be for us to begin raising rates sooner so that we can raise them gradually rather than putting it off, putting it off, putting it off and then have to raise them very rapidly.  I think that would be a better approach.

And the sooner we signal, the better off — the better off we’ll be with that, the bond market.

HAYS:  So the signal starting sooner:  inflation.  The current key measure for the Fed, the PC core deflators between 1.5 percent and still below 2 percent.  The core year-over-year CPI has been up around 2 percent now.

But it doesn’t seem to be — have a lot of momentum behind it.  We can — and you can tell me what you think of wages and the labor market.  But according to some indicators, yes, maybe there’s some pockets of some wage increases.  But no big pressure as yet.

So what is the urgency?  What dictates the sense of if we don’t — if we start too late, we’ll have to move faster.  If this rise in inflation is contained and gradual?

PLOSSER:  That’s an assumption, OK?  Monetary policy works with pretty long lags sometimes.  And Greenspan obviously made the point many years ago and so did Volcker, in many cases you have to act preemptively.  If you can’t — if you wait until inflation’s well ensconced, you are too late.  And I think that’s going to be the — that would be the problem.

And yes, I don’t — I’m not forecasting lots of inflation anytime in the near future.  I think we could find ourselves really behind the curve — we could — but we’re certainly not there yet in the sense of having to worry about inflation.

But the problem is if we wait until it’s there, we’re too late.

HAYS:  Headwinds, Europe, looks like the economy is receding.  Germany’s — more and more numbers coming in weak.  The euro area inflation numbers getting softer.  We — so the ECB’s got a big task, but I don’t want to ask you so much about the ECB in this moment, but more what does it mean for the Fed?  What does it mean to have a world that’s got a — the big bloc like that getting weaker, Ukraine-Russia conflict?  If you signal — if this signal comes now in the midst of this, could it disrupt the markets?  Could it — could it add to the pressures and add to the headwinds?

PLOSSER:  You know, I think we can conjure up all sorts of reasons not to do something.  And we can — we can imagine scenarios where the world comes to an end and it was all because the Fed did something.  I just don’t think that the U.S. economy is that sensitive to some of those factors.

Yes, the world economy is the world economy.  We are more integrated into the world economy than we used to be.  That’s certainly true.

But we’re still the world’s biggest economy.  And it’s important that we get our policies right and getting our policies right are at least as important as trying to play a guessing game as to what some other country’s going to do or some geopolitical risk.

I don’t believe that’s the way you conduct monetary policy.  I think we try to conduct monetary policy in a systemic, careful way that delivers the best results we can for the U.S. economy.  We can’t fix the geopolitical risk.  We can’t fix Europe and it’s challenges.  We can’t fix the emergency economy.  You go down the list.  We can’t fix China.

And we can — we can find ourselves in a position where we’re just afraid to do anything.  And I worry that, at some point, that’s where we are.  We’re just afraid to do it because something will go wrong.

HAYS:  Your growth forecast, your unemployment forecast and your confidence in it, we know that the past 3-4 years a lot of the more optimistic 3 percent-plus GDP forecasts have fallen short.

What is yours?  And why are you confident that growth is picking up?

PLOSSER:  Well, actually, I’ll go back and I’ll correct that a little — growth forecast for this — for the SEPs that have been — of those — some of economic projections that the FOMC puts out quarterly, those growth forecasts have not — have been probably a little bit optimistic.  I agree with that.

Actually, their unemployment rate forecasts have been too pessimistic because as I just said a few minutes ago, we are a year or a year and a half ahead on the unemployment rate relative forward where we thought we’d be.

So actually the unemployment rate and labor markets are improving faster than we thought we were.

So we are — we aren’t always on the — on the wrong side of the forecast.  And so I actually have never had a forecast above 3 percent.  Most of my forecasts over the last several years have been between 2.5 percent and 3 percent, which I consider, you know, slightly above trend, not much.

So I’ve never been one to forecast a big booming economy.  But I had been more optimistic on the unemployment rate than most of my colleagues.  And I think that’s going to continue.  Back in December of last year, when we made our year ahead projections, I said the unemployment rate was going to be 6.1 percent, I think.  I was an outlier.  Nobody thought we’d be down there.  But we’re there already.  We’re 6.2 percent.

So you know, I’m pretty confident.  We’ve had six months now, I think it is, of more than 200,000 jobs a month.  We haven’t seen that kind of job growth since the ’90s.  So to say that we’re not making progress is just — it’s just — it’s kind of closing your eyes to what the data’s trying to tell us, I think.

HAYS:  Labor market slack, an indicator many say shows that, sure, the unemployment rate’s come down.  But if you look at the long-term unemployed, if you look at people working part-time because they can’t find full-time work, all these indicators suggest, hey, this is no recovery.  This labor market is not strong.  There’s no need for the Fed to move because there’s not going to be wage inflation to push inflation up more.

What’s your response to that?

PLOSSER:  Well, two things.  One is we really don’t know how to measure slack.  It is a nebulous concept.  And I think we have to be very careful about what we think we know about that.

We’ve had zero interest rates now for almost six years, five years and nine months or whatever.  And part-time unemployment has not fallen very much.  What makes us think that keeping interest rates at zero for another six years is going to solve that problem?

Something else is going on in this economy other than just traditional labor market slack.  And so I — the way I think about it is is that, yes, the labor market’s not perfect yet.  I would like to see the labor market stronger and better.

But having said that, it’s not obvious at all to me anymore that monetary policy is the solution to fixing the problems in the labor market.  And if we persist in believing we can fix something that in fact we can’t, that’s when we create our — put ourselves in a box, put policy in a box and it becomes difficult to unwind from it.

So I’m very uncomfortable with the notion that we have to keep monetary policy at zero interest rates until the labor market’s healed completely.  I just don’t think — I think that’s very dangerous strategy.

HAYS:  Would you raise the key rate right now?  And if not now, when would you like to see it move higher?

PLOSSER:  Well, you know, I think there’s some grounds.  I’m a big fan of what I call systemic rules-based policies.  And if you look at rules, all sorts of different rules, not just Taylor rule but other versions of that, there are all sorts of rules out there.  And the FOMC looks at those.  And virtually all of those rules now tell us that either interest rates ought to be above zero, not high but above zero or above zero very soon.

Those provide my own personal way of thinking about how do I think the right level of policy and right level of funds rate.

So those rules are telling us, you know, we ought to be thinking about lifting off the zero bound.  That doesn’t mean going to 4 percent at interest rates.  But it does mean — it does mean gradually beginning to move the funds rate above zero.

So whether that happens right now or whether it happens in December, it’s probably not the critical question.  But if we are going to do it in the near future, we’ve got to start by changing our language.  And our language about forward guidance is what disturbs me, is because that language will end up tying our hands as we move forward and make it more difficult to move rates up when I think the time is right.

HAYS:  So there’s a possibility you would be voting for raising interest rates in December?

PLOSSER:  Depends on what the data is telling me.  I’m data driven at this point and I — the answer is maybe.  But maybe not.  Depends on what happens.

HAYS:  So once the key rate moves off zero, as it surely will, then we get into the question of the exit strategy and how the Fed is going to go about that.  That was on the table for discussion at the last meeting that was reflected in the minutes.

One of the things that some of my colleagues who are following this so closely noted was that there was a phrase about the temporary use of the reverse repo facility.  And it seemed to suggest that maybe the Fed is reluctant to use that aggressively.

Broadly on the exit strategy, what are the key tools you see being used?

And what about this use of the reverse RP facility?

PLOSSER:  Well, I think the key tool is going to be interest on reserves . I mean, I think that — and if you go back to 2011 when we first laid out our exit principles, we stated that the federal funds rate was going to be our primary instrument of monetary policy.  And it still will be.

But because we’ve got such a huge balance sheet, the way we’re going to have to get the funds rate to move up is going to be using interest on reserves.  That’s going to be our primary policy tool.

We have other tools, the reverse repo is one, to sort of make sure that in support, if you will, the ability of the interest on reserve to raise the funds rate and other short-term rates.  And that’s the way I think about it.  I think that we may not need — from my perspective, we may not need the reverse repo facility at all because if we raise interest rates and the funds rate goes up with it, why would — why would we need to introduce other dimensions at all?

So I think we need — I think the — right now the committee is leaning towards the reverse repo for being primarily a supporting or an ancillary tool to help ensure that the funds rate goes up with the — with IOER.

HAYS:  And do you — but do you need though the reverse repo facility to aggressively target the funds rate, to make sure you can control it?

PLOSSER:  No.  I don’t think so.  We may, but we don’t know the answer to that.  So I think it’s presumption to sort of say that we will because I don’t think we know whether we will or not in some sense.

So I’m not — I’m not — I’m not sure.  I mean, we’re in uncharted territory here.  So I think it’s important and some people think it’s important certainly to have the reverse repo on account of our — in our back pocket if we need it.

But it’s not obvious at all that we’ll need it.  And I think many members sort of think that the reverse — are worried about the reverse repo program becoming too big, too big an intervention into the money markets and to the plumbing of our money market system.  And so we want to be cautious about creating a facility that we can’t get ourselves out of in some sense.