Rosengren: No Hike Risks Cutting Recovery, Creating Imbalances

By not raising the federal funds rate target threatens the economic recovery and creates imbalances that have led to recessions, Federal Reserve Bank of Boston President and CEO Eric S. Rosengren said Friday.

"I am arguing for modest, gradual tightening now, out of concern that not doing so today will put the recovery's duration and sustainability at greater risk, by generating the sorts of significant imbalances that historically have led to a recession," he said in a statement on the Fed's website, explaining his dissention on the Federal Open Market committee vote to keep the target at 0.25% to 0.50%.

Rosengren said the economy is closer to meeting the Fed's dual mandate, with the labor market strengthening and inflation creeping up, despite headwinds from abroad, namely the Chinese economic woes, the Brexit vote and European banking woes.

"The economic progress since the last tightening in December might, by itself, be sufficient to justify a further increase in the rate target. However, it is in considering the implications of current policy for the sustainability of the expansion that the case for raising rates has now become even more compelling," he said.

Labor market forecasts for the next three years suggest considerable tightening, despite assumed rate increase. "By 2019, I expect the unemployment rate to have declined below 4.5 percent," Rosengren said. "While I have a long track record of advocating for policy that supports robust labor market conditions, that is below the rate that I believe is sustainable in the long run."

The statement continued, "Unemployment this low may well have the desirable effect of bringing more workers into the labor force – but, unfortunately, only temporarily. Historical experience suggests it also risks overheating the economy, the effects of which include heightened pressure on inflation and potentially increasing financial-market imbalances. Gently backing the economy away from such imbalances has proven to be very difficult in the past. In fact, such overshoots have in the past always resulted in a recession, rather than a return to the full employment level. Accomplishing a soft landing is difficult, and very rarely achieved. This is true whether reducing the unemployment rate, such as from its recent high of 10 percent, or raising it back to its full employment value from below.

"My goal is to achieve a long and durable recovery – a sustainable expansion. For the reasons articulated above, I believe a significant overshoot of the full employment level could shorten, rather than lengthen, the duration of this recovery.

"It is important to note that even with a gradual increase in interest rates, monetary policy's stance would be accommodative and as such would lead to further improvement of labor market conditions. This would allow policymakers to continue testing to find the level of full employment – but gently, not sharply."

For reprint and licensing requests for this article, click here.
MORE FROM BOND BUYER