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Richmond Fed’s Lacker—benefits and costs of the monetary stimulus

Phalguni Soni

Overview: Will the Fed's doves and hawks find common ground? (Part 7 of 11)

(Continued from Part 6)

Jeffery Lacker

Jeffrey Lacker has been the head of the Federal Reserve Bank of Richmond since August, 2004. The Richmond Fed district or the Fifth District Federal Reserve Bank, includes Washington DC, Maryland, North Carolina, South Carolina, Virginia, and most of West Virginia. As head of the Richmond Fed, he will be a voting member of the FOMC in 2015.

Dissent on QE3

One of the most hawkish Fed officials, Mr. Lacker has been a vocal critic of quantitative easing 3 (or QE 3), believing that additional monetary stimulus would have limited impact on economic growth. The last time Mr. Lacker was on the FOMC in 2012, he had dissented in all four FOMC meetings relating to asset purchases.

“The key issue, in my view, is the extent to which the benefits of further monetary stimulus are likely to outweigh the costs. Economic growth trends currently appear to be driven mainly by population growth and productivity growth, in which case monetary stimulus will only have limited and transitory effects. But further stimulus does increase the size of our balance sheet and correspondingly increases the risks associated with the ‘exit process’ when it becomes time to withdraw stimulus,” said Mr. Lacker in a December, 2013, speech when he addressed to the Charlotte Chamber of Commerce.

The limitations of monetary policy in addressing structural unemployment

In a June 26 address, Mr. Lacker said that the current rate of unemployment is caused more by structural factors rather than economic cycles. “It’s difficult for monetary policymakers to distinguish between cyclical and structural shifts in the labor market. But the distinction is critical, because monetary stimulus is unlikely to have much effect on unemployment that results from the latter.”

Mr. Lacker recommended development of human capital at the level of the individual at an early age to address this issue to “improve human skills and adaptability.”

On bond markets, raising the Fed funds rate and forward guidance

In a May 29 radio interview on Bloomberg’s Hay’s advantage, Mr. Lacker said that raising the Fed funds rate would be data-dependent. The path and the rate of increase in the base rate would depend a lot on how markets react.

He’s also been a supporter of rules-based forward guidance and the use of Taylor-rules, as opposed to discretionary guidance. He believes that markets would try and discern patterns from the central bank’s communications. As a result, it would be “better to be explicit how you want them to believe you’re going to respond in the future,” he said about rules-based guidance.

Investor impact

An increase in the base rate and a change in inflation expectations resulting from monetary stimulus, would impact yields in the overall bond market (AGG) other factors remaining constant. Yields on five-year (IEI) and seven-year treasuries (IEF) increased by 107 and 134 basis points, respectively over the period April 30, 2013–December, 31, 2013, due to the Fed’s taper of asset purchases and the prospects for a rate hike.

Yields on high-yield debt (JNK) as measured by the BofA Merrill Lynch U.S. High Yield Master II Effective Yield increased by 45 basis points over the same period. An increase in the base rate would likely result in increasing yields and falling prices, all else equal. An increase in interest rates would also likely impact borrowing levels by corporates(for example—companies in the S&P 500 Index (VOO)).

In the next section, we’ll discuss Governor Jerome Powell’s take on monetary policy.


Continue to Part 8

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