In tight decision, a Fed centrist wanted to trim QE

JOHNSTOWN, Pa./NEW YORK Wed Oct 9, 2013 3:48am IST

The facade of the U.S. Federal Reserve building is reflected on wet marble during the early morning hours in Washington, July 31, 2013. REUTERS/Jonathan Ernst/Files

The facade of the U.S. Federal Reserve building is reflected on wet marble during the early morning hours in Washington, July 31, 2013.

Credit: Reuters/Jonathan Ernst/Files

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JOHNSTOWN, Pa./NEW YORK (Reuters) - A Federal Reserve official known for her centrist views said on Tuesday she wanted to reduce the U.S. central bank's asset purchases last month, adding her voice to the Fed's so-called policy hawks who have spoken out against the shock decision to leave monetary policy unchanged.

The admission by Sandra Pianalto, who is retiring as president of the Cleveland Fed early next year, may come as a surprise given her long-standing support of Chairman Ben Bernanke's concerted effort to boost the U.S. economy in the wake of the Great Recession.

Her remarks were similar to those on Tuesday by Philadelphia Fed President Charles Plosser, a consistent critic of the quantitative easing program, or QE, and they underscore just how close was the Fed's decision on September 18 to keep buying $85 billion in Treasury and mortgage bonds each month.

"For me the improvement in labor markets seemed substantial enough to support a scaling back of the asset purchase program at last month's FOMC meeting," Pianalto, who like Plosser does not have a vote on the policy-setting Federal Open Market Committee this year, told the Economic Club of Pittsburgh.

She stressed however that "very supportive" policies remain essential to support the economy, which she said faces a fresh threat from a possible U.S. government debt default.

In deciding to keep buying bonds at the current clip, the Fed surprised investors globally who had widely expected it to trim the pace of QE3, which was launched about a year ago.

That decision sparked a surge in stocks globally that has now evaporated as political gridlock in Washington has raised fears over a default.

The comments align Pianalto more closely to the minority of hawks who have been urging their Fed colleagues to scale back monetary accommodation, given what they see as limited effects and unknown risks such as future inflation.

Plosser, speaking in nearby Johnstown, Pa., said the Fed should act as soon as possible given that economic growth is already firm and will become stronger next year.

"The time has come for an expeditious phase-out of the purchase program," said Plosser, who had advocated this for much of the year.

"We missed an excellent opportunity to begin this tapering process in September," he told a local chamber of commerce meeting. "This illustrates just how difficult it is going to be to wean ourselves off the extraordinary process of increasing accommodation we have embarked upon and begin to normalize monetary policy in a timely manner."

NUANCE, POLITICS

In response to the recession of 2007-2009, the Fed cut benchmark interest rates to effectively zero and just about quadrupled its balance sheet to $3.7 trillion.

Last month Bernanke and nine of the 10 voting FOMC members pointed to restrictive fiscal policies and tighter financial conditions, including a run-up in mortgage rates over the summer, as reasons to leave unchanged the bond-buying, which is meant to spur spending, hiring and economic growth.

Pianalto said the members wanted more evidence the economic recovery's progress will be sustained before making its move.

"I hope that the additional evidence that the committee is looking for arrives soon," she said. "We have limited experience with asset purchases so it pays to be cautious, especially in this uncertain economic environment."

But on a nuanced note, Pianalto said the U.S. economy "still has some way to go to regain its full health" and that business and consumer confidence is being shaken by the fiscal standoff in Washington. So "very supportive monetary policy remains essential," she said.

She forecast steady but slow improvement in the economy and a gradual reduction in unemployment, which stood at 7.3 percent in August. She expects inflation, which has been soft at 1.2 percent over the last 12 months, to gradually rise.

Plosser, meanwhile, said he expects growth to register 2.5 percent this year but then pick up to 3 percent in 2014, blaming part of this year's weakness on what he described as a significant drag from tighter fiscal policy.

A standoff in the U.S. Congress has shut down the federal government for over a week. Meanwhile the country will run dangerously low on cash if lawmakers do not raise the federal borrowing cap by October 17, and a default could follow within a week.

Pianalto warned about uncertainty over how the debt-ceiling debate will progress in coming months, saying a default that left interest unpaid on Treasuries could erode confidence in the bonds and drive their yields higher.

Answering an audience question, Pianalto said she would head up the Fed's Cleveland branch until a successor has been named; That person will have an immediate vote on the Fed's monetary policy committee next year.

(Reporting by Jonathan Spicer; Editing by James Dalgleish)

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