Fed’s Evans defends QE3 while warning of ‘lost decade’ in U.S.

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Federal Reserve Bank of Chicago President Charles Evans said policy makers must not be passive in the face of high U.S. unemployment, firing back at critics of the Fed’s decision this month to step up record stimulus.

“We cannot be complacent and assume that the economy is not being damaged if no action is taken,” Evans said today in the text of remarks prepared for delivery in Hammond, Indiana. “If we continue to take only modest, cautious, safe policy actions, we risk suffering a lost decade similar to that which Japan experienced in the 1990s.”

The policy-setting Federal Open Market Committee started a third round of quantitative easing this month, saying it would buy $40 billion in mortgage bonds a month until the labor market improves. The decision drew criticism from some Fed officials, including Philadelphia Fed President Charles Plosser, who said the new accommodation will do little to spur job growth while stoking inflation.

“It is essential to do as much as we can now to bolster the resiliency and vibrancy of the economy,” Evans said to the Lakeshore Chamber of Commerce, repeating his call for additional easing. He doesn’t vote on policy this year.

Evans has been among the most vocal proponents within the central bank for additional monetary stimulus. Reiterating a proposal, he urged policy makers to hold interest rates near zero until the unemployment rate falls to 7 percent or inflation rises to 3 percent.

The Fed can further expand its balance sheet if progress toward reducing unemployment falters, Evans said. The FOMC currently anticipates keeping interest rates low through at least mid-2015.

Economic Risks

Slowing growth abroad, Europe’s debt crisis and the so-called fiscal cliff -- in which $600 billion of tax increases and spending cuts take effect at the beginning of next year unless Congress acts -- have increased risks to the economic outlook, Evans said.

“Piling these risk events on a weak economy could throw us back into recession,” he said. “Underestimating the enormity of our problems and the negative forces holding back growth itself exposed the economy to other potentially more serious unintended consequences.”

Minneapolis Fed President Narayana Kocherlakota endorsed a variation of Evans’ proposal last week, arguing that a more explicit commitment to keep policy accommodative would help provide the economy with needed support.

Kocherlakota’s Turnabout

Kocherlakota advocates keeping rates low until unemployment falls below 5.5 percent, unless inflation hits 2.25 percent. That’s a change from May, when he said that the Fed may need to exit from its record monetary accommodation as early as this year. He doesn’t vote on policy this year.

Richmond Fed President Jeffrey Lacker dissented from the FOMC’s Sept. 13 decision, saying in a National Public Radio interview that the move risks pushing up prices while doing little to spur job growth.

Richard Fisher of Dallas and Philadelphia’s Plosser also said they opposed additional accommodation. The two district bank presidents, neither of whom votes on policy this year, cited the risk the move stokes inflation expectations.

Bloomberg News

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