Deficits may hurt US response to recessions — Fed exec
NEW YORK (Reuters) – The now “large” US deficits may complicate the government’s ability to curb future recessions with tax and spending policies, so the Federal Reserve must depend less on fiscal policy, a top Fed policymaker said on Friday.
“Large deficits now may make future actions difficult” for the government, Boston Fed president Eric Rosengren said in prepared remarks to a conference of central bankers and economists here. He added it was “difficult to depend on” fiscal policies in the face of a recession “given political pressures and uncertainties.”
Since mid-December the Republican-controlled Congress and US President Donald Trump aggressively cut taxes and boosted spending limits, two fiscal moves that are expected to push the annual budget deficit above $1 trillion next year and expand the $20 trillion national debt.
Meanwhile, the Federal Reserve should focus on lowering interest rates in the face of the next recession, and avoid rely- ing on asset purchases that are a less effective policy tool than previously thought, four top US economists told a roomful of Fed officials on Friday.
Their paper analyzed the efficacy of the US central bank’s $3.5-trillion in bond purchases in response to the 2007-2009 financial crisis and recession. It found that this so-called quantitative easing, or QE, did not affect market yields much and did not lower 10-year Treasury rates by the one-percent claimed by prior research on the topic.
The findings, including a recommendation for the Fed to keep a large portfolio of mostly short-term government debt, appears to lend support to the central bank’s plan to continue raising rates this year and in the years ahead so that it is better prepared to address an eventual economic slowdown.
“We find that the Fed’s balance sheet is a less reliable and effective tool than as perceived by many,” concluded the paper presented at the annual monetary policy forum hosted in New York by the University of Chicago Booth School of Business.
“The central question going forward should be the path for short-term interest rates rather than the path of the balance sheet,” it said. “That leaves lowering the short rate as the primary tool available to fight the next recession.”
New York Fed president William Dudley and Eric Rosengren of the Boston Fed were to critique the findings at the conference attended by a who’s who of the central bank, Wall Street and academia. The Fed is undergoing an unprecedented leadership overhaul just as it confronts the possibility of an economy running hot thanks to fiscal stimulus, low unemployment and synchronized global growth.
Since late 2015, the Fed has raised rates from rockbottom to between 1.25-1.5 percent and plans to hike about three more times this year. In October it began gradually shedding bond holdings by no more than $10 billion per month, with that cap edging higher throughout this year.