The policy lesson from Japan’s experience with deflation is “that you want to be more aggressive,” Dudley said in response to audience questions. The U.S. took that into account in fighting the worst financial crisis since the Great Depression, he said.
The Standard & Poor’s 500 Index fell 0.4 percent to 1,313.95 at 2:34 p.m. in New York, on signs China’s economy is showing strains from Europe’s debt crisis. The yield on the benchmark 10-year Treasury note climbed 0.03 percentage point to 1.76 percent.
The U.S. economy is “continuing to slowly recover” and employment growth has “picked up somewhat,” the New York Fed leader said. While “growth will gradually strengthen” over the next few years, lower government spending and Europe’s fiscal crisis are likely to be drags, he said.
“Significant downside risks remain, especially those related to the challenges in Europe and how the potential ‘fiscal cliff’ in the United States will be resolved after the fall election,” he said. “Even if these risks do not materialize, I anticipate only slow progress toward full employment.”
Dudley said in response to audience questions that government debt-service costs will “go up significantly” when the Fed normalizes its policy and raises rates. That will make fiscal challenges more difficult, though “that is not our problem” because the Fed is focused on meeting its dual objectives of price stability and maximum employment, he said.
Dudley spent most of his speech discussing the use of monetary policy rules such as one formulated by Stanford University professor John B. Taylor. Such equations can be useful in guiding policy, yet the Fed may need to be more accommodative than such rules suggest because the damage from a tighter policy is greater right now, he said.
Fed officials have discussed the usefulness of simple rules as a guide for policy makers and the public. The idea has been promoted by Philadelphia Fed President Charles Plosser in public comments.
Dudley said in an interview with CNBC today that he doesn’t currently see the need for additional action to ease policy.
“My view is that, if we continue to see improvement in the economy, in terms of using up the slack in available resources, then I think it’s hard to argue that we absolutely must do something more in terms of the monetary policy front,” Dudley said, according to a transcript of the interview posted on the New York Fed’s website.
The Fed has kept its benchmark rate near zero since December 2008 and bought $2.3 trillion of bonds in two rounds of asset purchases. A Fed program to extend the average maturity of its portfolio holdings is scheduled to end in June, and that probably won’t have a “big effect” on markets, Dudley said in the CNBC interview.