–Projects US Economy To Grow Between 2.5% To 3% in 2011

By Brai Odion-Esene

WASHINGTON (MNI) – Kansas City Federal Reserve President Thomas
Hoenig Tuesday repeated his charge that the Fed’s continued
accommodative stance is fueling inflation fears, warning the central
bank cannot have zero interest rates indefinitely and not encourage
inflationary expectations to grow.

Despite this, Hoenig told reporters following remarks at an
Independent Community Bankers Association event in Washington that he
expects the economy to continue to grow.

“My issue is as you let monetary policy remain highly
accommodative, you do begin to raise the specter of inflationary
pressures,” he said. “We have to be mindful of that.”

Hoenig pointed to his record as a voting member of the policymaking
Federal Open Market Committee, calling it a sign of his concern that the
Fed is getting complacent with regards to inflation.

Casting back to the Federal Open Market Committee’s assertion in
its April 27 statement that the effects of rising energy and other
commodity prices on inflation will be transitory, Hoenig said it will be
transitory “if monetary policy adjusts.”

Hoenig said he was troubled by the fact that inflation worries are
dominating the public consciousness, and said the Fed needs to take
actions to ensure it does not carry forward.

The Fed needs to slowly remove its accommodative policies he said,
and therefore calm inflationary fears. “If we don’t do that then I think
they will build over time.”

The Fed’s monetary policy is moving large amounts of liquidity into
the market even as the economy is in recovery, “and we have to be
thinking about withdrawing it,” Hoenig urged.

He argued that Fed policies, which have been in place since the
financial crisis, are encouraging more leverage, warning that these
policies cannot be continued “indefinitely” without consequences.

“I don’t think that’s sustainable,” he said.

Officials within the central bank are discussing when to begin
implementing its exit strategy, Hoenig noted. “My preference is sooner,
other people’s preference is later, but we have to take care of that …
eventually,” he said.

As for economic expansion, Hoenig said his outlook is for the
economy to continue to grow, citing the enormous stimulus — both fiscal
and monetary — that is still present.

The likelihood that growth will continue “is pretty high,” he said.

Grow will be modest because a need to deleverage is currently
taking place in the U.S., Hoenig said. “You have an economy that is
adjusting and readjusting how it carries its debt forward, and that’s a
slow process.”

The U.S. economy is still growing despite this, he noted, and
growth in the first quarter would have come in between 2.5% to 3%
without weather-related effects.

“I look for that going forward,” Hoenig said.

He added he does not believe the financial system is at a point
where the Fed removing excess liquidity would cause a shock.

“The longer you leave a highly accommodative policy in place, the
more you risk the buildup of imbalances,” he said. “My view,” he
continued, “is you start sooner, but small, and you remove it as the
economy itself improves.”

The Fed should not wait until it is “absolutely sure” that the
economy is completely recovered, Hoenig added. “You need to minimize the
risks going forward by carefully, and appropriately, removing policy
over time.”

Hoenig repeated his preference for the Federal Open Market
Committee to begin by removing the “indefinite” language from its policy
statement, slowly moving rates towards 1%, evaluate the impact on the
economy and then move to more normal rates as the economy recovers.

The Fed has options when it comes time to withdraw the massive
amounts of liquidity it has pumped into the financial system, Hoenig
said, such as reverse repos or allowing assets to roll-off.

“We’ll see how the economy moves and whether inflation continues to
show itself, and then have to judge what actions to take at that point,”
he said.

The mechanics to begin withdrawal are present, Hoenig said, the Fed
just to choose to deal with it.

Asked to comment on the much-discussed U.S. fiscal situation,
Hoenig said the nation’s debt levels and deficits are “appropriately
critically important topics for the Congress to deal with and to find
solutions for,” as it is key to the long-run health of the U.S economy.

He said the U.S. cannot run deficits that are nearly 10% of its GDP
year after year, and not expect adverse consequences in terms of the
economy’s growth and putting increasing pressure on the Fed to lower
rates due to a rise in real interest rates.

“To shut down the government is probably a draconian thing to do
and is harmful to the economy,” Hoenig said.

In prepared remarks before taking questions, Hoenig again called
for a limit on the activities of commercial banks to their traditional
role. He argued that narrowing the scope of banks’ activities would not
only result in a safer system but level the playing field between large
financial institutions and smaller, regional banks.

Such actions would also limit the scope and depth of any future
financial crises, he added.

Hoenig ended by calling on the gathering of community banks to join
him in trying to end the idea “that we can have institutions engaged in
hedge funds activity, supported by the federal government.”

** Market News International Washington Bureau: 202-371-2121 **

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