By Steven K. Beckner

MINNEAPOLIS (MNI) – Minneapolis Federal Reserve Bank President
Narayana Kocherlakota Friday reiterated his strong disagreement with
recent Fed easing measures and went further to allege that the majority
of policymakers who backed those steps have fundamentally changed their
approach in a way that risks an acceleration of inflation in coming
years.

Kocherlakota, a voting member of the Fed’s policymaking Federal
Open Market Committee, said the FOMC appears to have become “more
tolerant” of inflation in excess of its implicit target ceiling of 2% and
has become more oriented to seeking short-term job gains at the expense
of potential long-term losses in employment that could occur if the Fed
is forced to tighten policy to reduce inflation.

He went further to charge that the FOMC has “introduced a lack of
clarity about its monetary policy mission” and that it needs to better
explain how it plans to resolve the “trade-off” between unemployment and
inflation in future communications.

Kocherlakota said the actions which the FOMC took at its August and
September meetings are “inconsistent” with the way the economy has
evolved and at odds with the reasoning it used to justify a second round
of quantitative easing last November.

Kocherlakota, in remarks prepared for delivery to the Harvard Club
of Minnesota, recalled that he supported so-called QE2. But he was one
of three Federal Reserve Bank presidents who dissented on Aug. 9 against
the FOMC’s decision to announce that the federal funds rate would likely
stay near zero “at least through mid-2013.”

He dissented again on Sept. 21, when the FOMC took two additional
steps: 1. a $400 billion “maturity extension program” of selling
short-term and buying long-term securities and 2. reinvesting proceeds
of maturing mortgage backed securities to buy more MBS instead of
Treasuries.

Far from launching new stimulus measures, he said the FOMC should
have tightened policy, given that unemployment was lower and inflation
higher than last November.

Kocherlakota left no doubt that he will dissent again if Fed
Chairman Ben Bernanke seeks another round of quantitative easing or other
stimulative actions at the Nov. 1-2 FOMC meeting. Slower than expected
growth argues for a slower pace of withdrawal of “immense” monetary
accommodation, not additional accommodation, he maintained.

Only if the economy worsens should the Fed consider easing further,
he said.

Much of this Kocherlakota has said before, but he departed from
past speeches in expressing worry that the FOMC majority has veered onto
a new and more risky path.

Prefacing those concerns, he said there is “a key trade-off
involved in the making of monetary policy. There is a benefit to adding
monetary accommodation: It reduces unemployment. There is a cost to
adding monetary accommodation: It increases the risk of inflation
running above the Committee’s objective of 2% for multiple years.”

But the FOMC is changing the way it makes that trade-off, he
suggested.

“The FOMC’s actions in 2011 suggest that the Committee is resolving
this key benefit-cost trade-off differently in 2011 from however it
viewed the trade-off in 2010. In particular, it appears that the
Committee is now more tolerant of the risk of higher-than-2-percent
inflation than it was in 2010.”

And that’s not all. Kocherlakota also alleged that the FOMC is
changing its short-term/long-term monetary policy calculus.

“Higher-than-2-percent inflation over multiple years might lead to
an upward drift in inflationary expectations,” he explained, recalling
that “the Fed found in the 1970s that this upward drift could only be
retarded by large medium- and long-term employment losses.”

“Thus, I view the basic unemployment-inflation trade-off in the
making of monetary policy as really being about short-term employment
gains and the risk of larger longer-term employment losses,” he said.

But “the FOMC’s actions in 2011 suggest that it is resolving this
trade-off differently from however it viewed the trade-off in 2010,” he
went on. “In particular, it appears that the Committee has reduced the
weight that it is putting on the long term and increased the weight that
it is putting on the short term.”

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