WASHINGTON – A Federal Reserve official who dissented from this week’s policy decision said Friday that the Fed should have said it planned to keep a key interest rate at a record low until unemployment falls below 5.5 per cent.
The Fed’s policy statement no longer cites a specific unemployment rate that might lead it eventually to raise short-term rates. The Fed instead says it will monitor a range of information before approving any rate increase.
Narayana Kocherlakota, president of the Fed’s Minneapolis bank, said this shift, which the Fed approved 8-1, will hurt the economy.
“The new guidance fosters policy uncertainty and thereby suppresses economic activity,” Kocherlakota said in a statement explaining his dissent.
Kocherlakota said that lowering the threshold for considering a rate hike from 6.5 per cent unemployment to 5.5 per cent would have enhanced the Fed’s commitment to low rates until inflation nears its 2 per cent target. Inflation is now running around 1 per cent, and the unemployment rate is 6.7 per cent.
Kocherlakota said a better approach would have been a statement saying the Fed intends to keep rates at record lows until unemployment has fallen below 5.5 per cent — as long as expected inflation was below 2.25 per cent and any “possible risks to financial stability remain well-contained.”
On Wednesday, the Fed held its first policy meeting under its new chair, Janet Yellen. Afterward, it said it would weigh a range of economic measures in deciding when to begin raising its key target for short-term rates. The Fed has held its benchmark rate at a record low near zero since December 2008.
At a news conference afterward, Yellen unsettled financial markets in answering a question about what the Fed meant in saying short-term rates could remain low for a “considerable time” after it stops buying bonds to keep long-term rates low.
Yellen replied that that phrase could mean “something on the order of around six months.” That is a shorter time than some investors had anticipated for a possible rate hike. Her comment appeared to conflict with her other remarks at the news conference that the Fed’s decision on when to raise rates would depend on economic conditions.
The Fed is expected to keep trimming its monthly bond purchases by $10 billion at each meeting before ending them late this year. Six months from that point could put the first rate hike in the first half of 2015. Many economists still think the Fed won’t start raising rates until the second half of 2015.