Philly Fed chief says stagflation a real risk
Stagflation is a risk central bank policymakers must guard against when evaluating new rounds of accommodative monetary policy, according to Charles Plosser, president of the Federal Reserve Bank of Philadelphia. Nearly one year after the start of QE2, Plosser said it's time to look at inflationary risks. "Monthly changes in inflation have moderated slightly from those seen earlier in the year when the prices of many commodities, including oil, were rising sharply," Plosser said. "However, measured on a year-over-year basis, both total inflation and core inflation continue to advance. I do anticipate that with many commodity prices now leveling off or falling, and inflation expectations relatively stable, inflation will moderate in the near term." Plosser said while deflation was a concern when the Federal Reserve embarked on QE2 by purchasing $600 billion in long-term securities, the economic environment today is somewhat changed with inflation higher and unemployment stagnant around 9%. "It is appropriate to ask what criteria we are using to justify further accommodation," Plosser told a gathering of businessmen outside Philadelphia. "In this environment, I think it is very important that we refrain from actions that risk fueling a steady rise in inflation or inflation expectations over the medium term." He was one of three regional Fed chief who voted against the latest policy decision by the Federal Open Market Committee, and remains skeptical of "Operation Twist." "I dissented from these decisions because I believe that they will do little to improve the near-term prospects for economic growth or employment and they do pose risks," Plosser said. "Policy actions should never be considered free and should be evaluated based on the costs and benefits," he said. "Based on our experience with Operation Twist in the 1960s and with last year's QE2, the reduction in long-term rates is likely to be less than 20 basis points for the 10-year Treasury yield, which is currently only 2%." He added, "The pass-through to the rates at which consumers and businesses actually borrow is likely to be much less. Thus, I am skeptical that this will do much to spur businesses to hire or consumers to spend, given the ongoing structural adjustments occurring in the economy and the uncertainties posed by the fiscal challenges both here and abroad." Write to Kerri Panchuk.