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Fed's Mester wants policy guidance to be more data-based

Loretta Mester, president of the Federal Reserve Bank of Cleveland, attends the Jackson Hole Economic Policy Symposium in Jackson Hole, Wyoming August 22, 2014. REUTERS/David Stubbs

By Howard Schneider

CLEVELAND (Reuters) - Cleveland Federal Reserve President Loretta Mester said she thinks the Fed should overhaul how it communicates its policy guidance, perhaps tying statements about monetary policy to forecasts about economic performance.

In remarks here on Wednesday she said that as the Fed ends its crisis-era policies it should move from the type of qualitative forward guidance it has used in recent years to hold down long-term interest rates by pledging to keep target rates low for an extended period of time.

As the economy returns to normal, she said, the Fed should shift to statements about what data it is watching and how that may influence policy.

While short of a formal monetary policy rule, Mester said such a system would give the public, investors and others a clearer sense of where policy is heading based on economic performance.

"I would like to see the forward guidance evolve over time to give more information about the conditions we systematically assess," Mester said.

That would require, she said, the Fed to agree on the data it feels should be watched on a systematic basis. As it stands there is disagreement among Fed officials, for example, over whether the unemployment rate is the best indicator of labor market health, or whether a broad set of other measures are also important.

"I don’t think that we want to say this month we are looking at the unemployment rate and the next month we are looking at something else," she said.

Her comments come amid a broad review of Fed communications strategy led by Vice-Chair Stanley Fischer. Mester is a member of the committee undertaking that review.

There is also a more immediate debate over how to change the current policy statement to prepare for the first interest rate increase in a decade, now expected in the middle of next year.

Mester repeated an earlier critique - that she felt it was time for the Fed to drop language stating that it would be a "considerable time," once a Fed bondbuying program ends this fall, before interest rates are increased.

The phrase "tends to focus the public's attention on a calendar time for liftoff rather than the changes in economic conditions that will help determine changes in appropriate policy," she said.

Mester, who currently votes on the Fed's main policy setting committee, said despite that opposition she did not join two other dissenters at the Fed meeting because she supported the rest of the "well-crafted" statement.

The bondbuying program is set to end in October, and many analysts feel the phrase will almost certainly need to be dropped or modified at that point.

Mester did not indicate when she feels rates should increase. But she did say her economic projections are on the more optimistic side, with growth projected at 3 percent for the next two years, and unemployment expected to reach what she regards as a normal level of 5.5 percent by the end of 2015.

(Reporting By Howard Schneider; Editing by Andrea Ricci)