Federal Reserve Bank of Philadelphia President Charles Plosser said Friday that the U.S. central bank needs to start preparing markets for increases in short-term interest rates that may come sooner than many currently expect.
“We need to adjust the language in our statement to reflect that the economy really is better that it was, and that the necessity of having zero interest rates for a long time to come seems to me to be perhaps a risky or unnecessary step at this point,” Mr. Plosser said in an interview with The Wall Street Journal.
“I don’t know if we need to tighten policy right now, but it’s pretty clear to me” the economy has improved in a way that central bankers need to get ready for the coming end to the Fed’s ultra-easy money stance, he said.
Mr. Plosser’s comments came from an interview held on the sidelines of a conference held by the Global Interdependence Center in Jackson Hole, Wyo. He weighed in at a time of shifting expectations about the outlook for monetary policy.
Rapid improvements in the state of the labor market and some signs inflation may be starting to stir higher are driving many in financial markets to expect that the Fed may increase interest rates sooner than had been thought.
Fed officials widely agree that the first increase in what are now near-zero-percent short-term rates will happen some time next year, in a long-held view. A number of officials have indicated that the increase most likely would occur around midyear and maybe even after. But some central bankers, much like those in financial markets, are beginning to gravitate to the view that rates could rise sooner than they have been projecting.
Mr. Plosser, who currently holds a voting slot on the monetary policy-setting Federal Open Market Committee, long has been uncomfortable with the ultra-easy stance of monetary policy. He also has said in past that the Fed should contemplate raising interest rates sooner rather than later.
In the interview, Mr. Plosser said that while he knows it is unlikely to happen, he would prefer for the Fed to lift rates this year and close out 2015 at a 1% short-term rate level, with rates at 3% by the close of next year.
He said that while it is a matter that is up for debate, he believes the Fed needs to change its policy statements in a way that won’t suggest rates will rise at some distant point in the future. The Fed now pledges to keep rates near zero for a “considerable period” after the end of its bond-buying program, and Mr. Plosser believes language like that needs to be done away with.
Mr. Plosser also addressed the June Fed meeting minutes, which were released Wednesday. The document showed officials hashing out the technical details of how they will raise rates in a world where the financial system is flooded with reserves. The Fed traditionally has adjusted back reserves to achieve the desired level of short-term rates.
The Fed will have to follow a different path when it increases rates given this situation. Mr. Plosser explained that it is possible the Fed may have to change how it defines the level of short-term rates given the current state of what is called the fed funds market, where banks borrow and lend reserves. The fed funds target rate long has been the central bank’s primary expression of the state of monetary policy.
“I’m open to the idea that maybe there’s a different definition” of the Fed’s short-term rates goals. He said it is possible that the Fed may combine a number of different rates, for example market-based fed funds rates with rates from the Eurodollar market–in a bid to target the overall level of short-term rates.
“We really don’t have to have precise control over every short-term interest rate in the marketplace” for monetary policy to work, Mr. Plosser said. The Fed may be able to work just as well with a new aggregate of market rates, although he noted this is still very much a matter of debate among policy makers.
“You may still have an effective funds rate, but that may be only one piece of what we might describe as the overall general level of short-term rates,” the official said.
Mr. Plosser also said the low level of volatility in most financial markets right now makes him “nervous.” He added, “I’m not sure low volatility is necessarily a healthy thing. There are risks out there” and traders and investors shouldn’t be complacent about that.
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