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Fed's George Says Interest-Rate Cuts Could Boost Financial Risks

Steve Matthews and Vincent Del Giudice

(Bloomberg) -- Federal Reserve Bank of Kansas City President Esther George said cutting interest rates now to insure against risks to growth could also lead to overheating and endanger financial stability with already-elevated debt levels, potentially causing economic harm later.

“The ability of the Federal Reserve to offset any unintended effects related to financial stability at this stage of the business cycle seems limited,’’ George said in the text of a speech at an energy conference co-hosted by her bank in Denver.

George has dissented against the Federal Open Market Committee’s decisions to cut rates a quarter point at the past two meetings. Her remarks suggested she might dissent again Oct. 30 if the central bank makes a third straight reduction as markets project amid persistent trade disputes and global weakness. Fed Chairman Jerome Powell has said the economy is in a “good place’’ but faces increasing risks, and that moves will be decided meeting to meeting.

George framed the policy debate as pitting those who favor a risk management approach -- easing to head off potential downside risks -- versus those favoring data dependence, or relying on incoming reports to adjust their forecasts of the most likely outcome.

Leverage Risk

While the risk-management camp has emphasized that inflation is below the Fed’s 2% target, George said that she’s “mindful that rate reductions are intended to boost demand and encourage risk-taking and leverage,’’ which could be costly in the 11th year of the expansion.

Growth in the U.S. has been slowing to around 2% this year because the labor market is tight and because of the fading impact of fiscal stimulus, George said. Both were expected, so the slowdown should be no surprise to policy makers, she said.

George said she’d be willing to adjust her policy view if downside risks emerge and affect the outlook.

The Kansas City Fed leader said that while the benefits of “taking out insurance’’ are clear, the costs are less visible.

“One potential cost is that such an insurance policy risks overheating the sectors of the economy that are already performing well,’’ leading to “a misallocation of resources toward those interest rate-sensitive sectors,’’ she said. In addition, “levels of corporate debt and other vulnerabilities become elevated.’’

To contact the reporters on this story: Steve Matthews in Atlanta at smatthews@bloomberg.net;Vincent Del Giudice in Denver at vdelgiudice@bloomberg.net

To contact the editors responsible for this story: Scott Lanman at slanman@bloomberg.net, Vince Golle

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