Accommodative monetary policy remains "quite appropriate" and "a strong case can be made" for continuing the purchase of longer-term securities beyond year-end, Federal Reserve Bank of Boston President & Chief Executive Officer Eric S. Rosengren said Monday.
"Given the tepid economic recovery, high unemployment, and subdued inflation - and the uncertainty around fiscal policy - I believe an accommodative monetary policy is quite appropriate," Rosengren said in a keynote speech at a Fed conference in New York, according to prepared text released by the Fed. "We want to see continued improvement in labor markets in the near term, and monetary policy should encourage faster economic growth to achieve that objective."
He suggested the composition of the Fed's balance sheet is as important as its size. "When interest rates are already at the zero lower bound, a short-maturity reserves-focused policy will not have much impact on inflation or employment."
Spread-focused monetary policy, which attempts to cut "the cost of funds to households and firms by purchasing longer-duration assets" adds to reserves, and "focuses on altering the cost of longer-term borrowing."
By purchasing long-term Treasury securities, the Fed flatten the yield curve and pushes down medium- and long-term rates, which spur consumer purchases, including homes and cars, he said.
"Similarly, the purchase of mortgage-backed securities causes rates to decline for MBS but also for other longer-duration assets. By reducing the borrowing cost of these purchases, demand for cars and houses should be stimulated. By altering interest rates faced by firms and households, as well as expanding the amount of reserves, the transmission of monetary policy is likely to be much more effective given that the economy has already reached the lower bound for short-term interest rates," Rosengren said.
Spread-focused monetary policy's main risk is that when discontinued, the balance sheet will not drop as quickly, since the assets have longer maturities.
"There may be several reasons for a central bank to prefer large-scale purchases of mortgage-backed securities," he noted. "Some of these reasons involve loosening the assumption that assets are close substitutes and that duration is the key channel through which central bank purchases have effects."
Rosengren said he "fully" backs stimulating the economy with asset purchases "and I believe that including MBS purchases in the first and third asset-purchase programs have contributed to a stronger economic outcome than we would have seen in the absence of these approaches."