Evans Wants FFR Near Zero Until Jobless Rate 6.5%

Tweaking his previous statements, Federal Reserve Bank of Chicago President and Chief Executive Officer Charles L. Evans said Tuesday the fed funds rate should be kept near zero until unemployment is below 6.5% as long as inflation stays under 2.5%.

Previously, Evans advocated keeping rates near zero until unemployment fell below 7% as long as inflation didn't hit 3%, measured in terms of the outlook for total PCE (personal consumption expenditures pride index).

"Our latest actions put us on a better policy path than we had when I first proposed the 7/3 markers a year ago," Evans said in a speech to the C.D. Howe Institute in Toronto, according to prepared remarks released by the Fed.

Since inflation remains tame, he said, "there would be no reason to undo the positive effects of these policy actions prematurely just because the unemployment rate hits 6.9 percent - a level that is still notably above the rate we associate with maximum employment."

Two major long-term challenges - high debt-to-GDP levels and the benefits owed to "an increasingly aging population" - remain to be solved, he said. "The U.S. long-run fiscal imbalance is quite significant, and it is important that we soon develop plans for controlling the long-run increase in our debt," Evans said. None of the options that would move the nation toward "a more sustainable fiscal path" would prove "painless," he warned.

Evans emphasized four messages about the U.S.'s long-term challenges: "the U.S consumer is no longer in a position to be the engine of world growth"; the nation needs to consolidate its finances gradually over time "to avoid further economic turmoil or another downturn"; "longer-term implications for market interest rates are complex and ambiguous"; and "all of the long-term challenges we face become easier to meet if we can increase the underlying growth potential of our economies."

"If policymakers punt on making tough fiscal choices or choose too little fiscal consolidation with continued high fiscal deficits, it is likely that the overall demand for so-called loanable funds will be very high relative to the supply," he said. "This will be especially evident once the United States is past the worst of our current liquidity trap conditions."

Evans also touched upon the asset purchases tied to "substantial improvement in labor markets." In attempting to define the term, Evans suggested it would take several occurrences: payroll gains of at least 200,000 a month for six months and faster GDP growth "something noticeably above the economy's potential rate of growth."

Even with those gains, Evans said, "we would keep the funds rate near zero for some time longer." The extended period, he said, is needed due to "what modern macroeconomic theory tells us is the optimal policy response to the extraordinary circumstances we have faced over the past four years." He explained that conditions called for continued lowering of the fed funds rate below zero. "But we cannot do that. So instead, modern theory tells us that we should promise that once economic activity recovers, for a time we will hold rates below what they typically would be. This makes up for the period when we were constrained from taking rates negative."

He denied that the Fed is trying to lower real rates by pushing inflation above the 2% target.

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