Wires

UPDATE 1-Fed's Stein says firmly backs QE3, low rates pledge

Share

(Adds comments, details, background)

By Pedro Nicolaci da Costa

WASHINGTON, Oct 11 (Reuters) - U.S. unemployment remains"painfully high" while inflation is not an immediate concern,giving the Federal Reserve plenty of reason to launch a newstimulus last month, a top Fed official said on Thursday.

Jeremy Stein, in his first keynote speech since becoming aFed governor in May, said he strongly supported the U.S. centralbank's decision to embark on a new, open-ended bond-buyingprogram.

His comments suggest that despite cries of foul from ahandful of hawkish regional Fed bank presidents, Fed ChairmanBen Bernanke had solid backing for the third round ofquantitative easing, or QE3, announced in September.

Stein said the plan was needed to boost an economy that wasgrowing too slowly to bring down the nation's unemployment rate,currently at 7.8 percent.

"It appears that the economy is growing at a pace such that,absent policy action, progress on reducing unemployment willlikely be slow for some time," Stein told an event at theBrookings Institution. "Given where we are, and what we know, Ifirmly believe that this decision was the right one."

U.S. economic growth registered a paltry 1.3 percent annualrate in the second quarter and economists polled by Reuters seea still anemic 1.7 percent clip for the third quarter.

Stein offered a detailed explanation of how he estimates theeffect of the new asset purchases will help economic growth. Thepurchases kick off with $40 billion per month in mortgage-bondbuying.

He estimated a hypothetical $500 billion in Treasurypurchases would lower yields on benchmark 10-year U.S. Treasurynotes by about 0.15-0.20 percentage point. Steinadded there was a boost to stock prices and corporate bondmarkets as well.

But he said there was an even deeper impact from thepsychological boost to confidence among consumers andbusinesses.

"(The) overall impact of (asset buys) may be augmented via asignaling or confidence channel," Stein said.

Describing some of the potential costs of unorthodoxmonetary easing from the Fed, Stein concluded - like thepolicy-setting Federal Open Market Committee - that the risksare manageable and worth taking. He said the Fed has the toolsand the will to raise interest rates if inflation becomes aproblem.

FED ON BUBBLE WATCH

Stein said the Fed is cognizant of the possibility that lowinterest rates could lead to asset bubbles by forcing investorsto take undue risks, and that the Fed would monitor suchprospects closely.

But he added current conditions offer little cause foralarm, arguing low rates may actually contribute to financialstability by making it easier for firms to rely less heavily onshort-term financing.

He pushed back against the notion that the Fed might beshooting for higher inflation, saying this would risk thecentral bank's credibility without offering any obviousbenefits.

"I disagree with the premise that what we're doing isseeking to gin up inflation," Stein said in response toquestions from the audience.

Stein also dismissed the notion that easy monetary policyonly helps wealthy individuals by boosting stock prices. Onbalance, lower income earners tend to have higher debt levels,he said, and are therefore net beneficiaries of the Fed'sultra-low rates.

He acknowledged that the weakening of the dollar that tendsto accompany the Fed's monetary stimulus is of some benefit toeconomic growth but argued that this is not a dominant channelthrough which Fed policy affects the economy.

In response to the financial crisis and deep recession of2007-2009, the Fed cut official rates to effectively zero andmore than tripled its balance sheet to around $2.8 trillion.

(Editing by Neil Stempleman and James Dalgleish)

((pedro.dacosta@thomsonreuters.com)(+1 202 354-5820)(ReutersMessaging: pedro.dacosta.thomsonreuters.com@reuters.net))

Keywords: USA FED/STEIN