–Likely To Be In Low-Rate Environment For Considerable Period Of Time
–QE3 Bolsters Credibility Of Fed’s Forward Guidance; Argument In Favor

By Brai Odion-Esene

WASHINGTON (MNI) – Federal Reserve Board Gov. Jeremy Stein Thursday
touted the benefits of the central bank’s large scale asset purchases,
citing a “substantial” pass-through to the bond markets, and the fact
that it bolsters the credibility of the Fed’s forward guidance.

In remarks prepared for delivery to the Brookings Institution, his
first public speech since his confirmation — and clearly aimed at
establishing his monetary policy bonafides — Stein acknowledged the
concerns some have regarding the Fed’s unconventional policy tools, but
assured the risks remain manageable.

“It is just a fact of life that we are likely to be in a low-rate
environment for a considerable period of time, in light of the economic
outlook,” he said.

The Fed’s policymaking Federal Open Market Committee announced last
month that it would begin purchases of mortgage-backed securities at a
rate of $40 billion per month, in tandem with the ongoing maturity
extension program in Treasury securities, and would continue with asset
purchases if there was no substantial improvement in the the labor
market.

“Given where we are, and what we know, I firmly believe that this
decision was the right one,” Stein said. “It appears that the economy is
growing at a pace such that, absent policy action, progress on reducing
unemployment will likely be slow for some time.”

In addition, inflation is subdued and expectations remain
well-anchored, Stein said.

“My own reading of the evidence is that, thus far, there has been
substantial pass-through from LSAPs to corporate bonds and mortgages,
and some, but considerably less, to other, more distant asset categories
like equities,” he said.

In its September statement, the FOMC also made clear that “a highly
accommodative stance of monetary policy will remain appropriate for a
considerable time after the economic recovery strengthens.”

Stein said the asset purchases announced in the same statement
helped bolster the credibility of the forward guidance component “by
pairing a declaration about future intentions with an immediate and
concrete set of actions.”

This “signaling effect,” as Stein described it, is an important
part of the argument in favor of asset purchases in the current
environment.

As to why the Fed chose to buy mortgage securities rather than more
government debt, Stein said MBS purchases may offer a better
“cost-benefit” profile compared to buying Treasuries in the current
environment.

One of the reasons he gave, was that it made sense to focus on a
sector that is more sensitive to financing costs.

“To the extent that markets are segmented and MBS purchases
therefore have a more powerful effect on primary mortgage rates than do
Treasury purchases, this possibility may be another appeal of going the
MBS route,” he said.

Fed officials opposed to the central bank’s aggressive drive to
lower unemployment have warned of complications when the time comes to
withdraw monetary stimulus, and have also said the Fed is laying the
groundwork for future inflation increases.

But Stein downplayed those concerns.

“I am confident that we have the tools to raise rates,” Stein
countered, adding, “If the FOMC needs to act in the face of an emerging
threat to price stability, there is little doubt in my mind that we
can.

“As to whether we will, the Federal Reserve has repeatedly made
clear its commitment to both sides of its mandate — to price stability
as well as to maximum employment,” he added.

As for worries that the Fed’s policies might be encouraging highly
risky behavior as financial market participants reach for yield, Stein
said no “alarming” evidence of this has emerged yet, but the Fed would
be cautious in interpreting the data.

The Fed’s recently announced policy measures are strong positive
steps, Stein said, and he is hopeful they will help to give economic
growth a much needed boost.

Still, “LSAPs really are a different animal, and it is important
for us to try to better understand these differences, and to do our best
to take them into account when making policy judgments,” he said.

“In short, there is a lot left for us to learn,” Stein concluded.

** MNI Washington Bureau: 202-371-2121 **

–email: besene@mni-news.com

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