SAN JUAN, Puerto Rico - New York Federal Reserve Bank President William Dudley said Friday that the Fed "can be patient" about withdrawing monetary stimulus so long as people remain confident in the Fed's ability and will to do so and so long as inflation expectations remain well-anchored.
Dudley, speaking to reporters following a speech to a group of Puerto Rican business people, did not take the opportunity to signal any speeding up of the timing of an exit from monetary accommodation, although he didn't rule that out.
He said monetary policy will respond, as always, to changing circumstances, including economic growth, employment, inflation and inflation expectations.
The vice chairman of the Fed's policymaking Federal Open Market Committee saw it as unlikely that the Fed will not complete the full $600 billion of planned long-term Treasury security purchases through June and said he does not see a tightening of policy thereafter as being "near at hand."
In light of recent comments by other Fed officials suggesting that the Fed might need to tighten credit sooner than previously thought, Dudley was asked by MNI to comment on whether those odds had increased.
He replied that "it's too soon to say exactly what we will or will not have to do."
Policy actions depend in good part on "what happens to commodity prices and what effect that has on inflation expectations," Dudley continued. "I think that will be important in terms of how we think about monetary policy."
Dudley emphasized that "we have the ability to exit in a timely manner" when the time comes. He said those who are concerned about the size of the Fed's balance sheet hindering the Fed's ability to tighten "are incorrect." He pointed to the Fed's ability to pay interest on reserves as an effective exit tool.
The fact that the Fed will have bought more than $2.3 trillion in assets by mid-year "in no way impedes our ability to exit," he said.
What's more, Dudley said the Fed has not only the ability but "the will" to exit. He said that should make people confident about the Fed's commitment to price stability and keep inflation expectations under control.
"As long as there is a stable anchor" of inflation expectations, "I don't think the timing of exit is near at hand," he said.
Dudley added, "the biggest risk we have is that people somehow lose confidence in our ability" to tighten monetary policy in a timely and effective manner.
But "if we keep people confident in our ability to exit smoothly and inflation expectations (retain) a stable anchor, then I think we can be very patient," he added.
Asked whether there is any possibility that the FOMC might decide at its April meeting not do the full $600 billion of asset purchases, Dudley didn't rule out that possibility, but made clear he thinks it very unlikely.
"There are always potential events in the future that can change the course" of policy, he said. Using a car-driving analogy, he said that a driver wanting to "stay on the road" might have to steer right or left if the direction of the road changes suddenly.
But he added, "I would be surprised...if we didn't finish the full" amount of quantitative easing. He noted that this is the market expectations and said "I don't see those expectations as unreasonable in any way."
He didn't rule out further QE but said "the benefits have decreased a little bit" because "the risk of deflation has diminished."
Asked about the timing of hikes in the federal funds rate from the zero to 25 basis point range in which it has been since December 2008, Dudley cited the FOMC's statement with a chuckle, noting that it said once again on March 15 that it expects to keep that key rate "exceptionally low for extended period."
"That's our policy," he said.
He was further asked what would be an appropriate lapse of time following the conclusion of "QE2" to begin tightening or signaling tightening.
Once again Dudley was ambivalent or conditional in reply.
"I think it very much depends," he said. "We need to be flexible in response to the economy and inflation and unemployment and inflation expectations."
"I don't think we in any way we want to tie our hands and say we'd definitely do X or definitely do Y," he went on. "Circumstances can change."
"We make policy at the mean based on what we think the economic outlook going to be, but that's a forecast and forecasts have a lot of uncertainty surrounding them," he added. "The world can in fact change."
What if core inflation were to rise in a context of continued high unemployment and resource slack? Dudley was asked by MNI. How would the Fed resolve that dilemma?
He replied that core inflation has "stabilized" and "picked up a little bit," and he said he "wouldn't be surprised to see core inflation rise a little further from here" because there is "some pass-through" of higher commodity prices. For instance, higher fuel costs could lead to higher airfares, he said.
If core inflation were to rise even further, Dudley said he would want to analyze the cause. Higher taxes could raise core inflation without implying underlying price pressures, for instance, he said.
So far, he said the pass-through of commodity price pressures has been "very very muted" and he said "we're not seeing anything that's particularly troubling."
Dudley said that the rise in headline and core inflation that has occurred in recent months has "virtually nothing to do with U.S. monetary policy."
He said the Fed must be mindful of potential "second round effects" from rising energy and food prices, but said so far there has been no need to worry about such effects.
In light of recent conflicting statements by various FOMC members, Dudley was asked whether he was concerned about the policymaking body becoming "fractured." He wasn't.
"I think that it's important not to overstate the degree of disagreement," he said, adding that there is broad agreement on the Fed's objectives.
"Reasonable people can disagree," he said, but "I don't think the disagreement is as deep as people are representing."
As for the perennial question about adopting an explicit inflation target and moving away from the Fed's statutory dual mandate, Dudley said he could live with a single mandate and said it would make little difference for monetary policy. But he said that making such a shift at the present time would be complicated because "we're pretty close to our inflation mandate" but "still far away from our employment mandate."
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