Fed's Yellen says
'high-pressure' policy may be only way back from crisis
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[October 15, 2016]
By Howard Schneider and Svea Herbst-Bayliss
BOSTON (Reuters) - The Federal Reserve may
need to run a "high-pressure economy" to reverse damage from the
2008-2009 crisis that depressed output, sidelined workers, and risks
becoming a permanent scar, Fed Chair Janet Yellen said on Friday in a
broad review of where the recovery may still fall short.
Though not addressing interest rates or immediate policy concerns
directly, Yellen laid out the deepening concern at the Fed that U.S.
economic potential is slipping and aggressive steps may be needed to
Yellen, in a lunch address to a conference of policymakers and top
academics in Boston, said the question was whether that damage can be
undone "by temporarily running a 'high-pressure economy,' with robust
aggregate demand and a tight labor market."
"One can certainly identify plausible ways in which this might occur,"
Looking for policies that would lower unemployment further and boost
consumption, even at the risk of higher inflation, could convince
businesses to invest, improve confidence, and bring even more workers
into the economy.
Yellen's comments, while posed as questions that need more research,
still add an important voice to an intensifying debate within the Fed
over whether economic growth is close enough to normal to need steady
interest rate increases, or whether it remains subpar and scarred, a
theory pressed by Harvard economist and former U.S. Treasury Secretary,
Lawrence Summers, among others.
Her remarks jarred the U.S. bond market on Friday afternoon, where they
were interpreted as perhaps a willingness to allow inflation to run
beyond the Fed's 2.0 percent target. Prices on longer dated U.S.
Treasuries, which are most sensitive to inflation expectations, fell
sharply and their yields shot higher.
The yields on both 30-year bonds <US30YT=RR> and 10-year notes <10YT=RR>
ended the day at their highest levels since early June, and their spread
over shorter-dated 2-year note yields <US2YT=RR> widened by the most in
Jeffrey Gundlach, chief executive of DoubleLine Capital, said he read
Yellen as saying, "'You don't have to tighten policy just because
inflation goes to over 2 percent.'
"Inflation can go to 3 percent, if the Fed thinks this is temporary,"
said Gundlach, who agreed Yellen was striking a chord similar to
Summer's "secular stagnation" thesis. "Yellen is thinking independently
and willing to act on what she thinks."
While investors by and large think the Fed is likely to raise interest
rates in December this year, in a nod to the country's 5.0 percent
unemployment rate and expectations that inflation will rise, they do not
see the Fed moving aggressively thereafter.
"This is a clear rebuttal of the hawkish arguments," to raise rates
soon, a line of argument pitched by some of the Fed's regional bank
presidents, said Christopher Low, chief economist at FTN Financial.
[to top of second column]
Federal Reserve Chair Janet Yellen speaks at "The Elusive 'Great'
Recovery: Causes and Implications for Future Business Cycle
Dynamics" conference hosted by the Federal Reserve Bank of Boston in
Boston, Massachusetts, U.S., October 14, 2016. REUTERS/Mary Schwalm
Boston Federal Reserve Bank president Eric Rosengren, who is hosting the
conference at which Yellen spoke, was one of three policymakers who dissented at
the Fed's September policy meeting and argued for an immediate increase in
interest rates. He feels a slight increase now will keep job growth on track and
prevent a faster round of rate increases later.
But in a speech earlier on Friday Rosengren also referred to the economy as
"nonconformist" because of its slow growth, and the general mood at the
conference was that the sluggishness is largely the result of forces like aging
and demographics that are unlikely to change.
"We may have to accept the reality of low growth," said John Fernald, a senior
research at the San Franciso Fed. "Potential is really low."
That sort of assessment could figure importantly in coming debates over rate
policy, and over whether support is building at the Fed to risk letting
inflation move above its 2.0 percent target in order to employ more workers and
perhaps encourage more investment. It could even impact the central bank's
willingness to put more aggressive monetary policies back into play if the
"If strong economic conditions can partially reverse supply-side damage after it
has occurred, then policymakers may want to aim at being more accommodative
during recoveries than would be called for under the traditional view that
supply is largely independent of demand," Yellen said. It would "make it even
more important for policymakers to act quickly and aggressively in response to a
recession, because doing so would help to reduce the depth and persistence of
From low inflation to the effect of low interest rates on spending, Yellen's
remarks demonstrated how little in the economy has been acting as the Fed
With public expectations about inflation so hard to budge, Yellen said tools
like forward guidance, "may be needed again in the future, given the likelihood
that the global economy may continue to experience historically low interest
rates, thereby making it unlikely that reductions in short-term interest rates
alone would be an adequate response to a future recession."
(Reporting by Howard Schneider and Svea Herbst-Bayliss; Additional reporting by
Richard Leong, Jennifer Ablan and Jonathan Spicer; Editing by Andrea Ricci and
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