CHICAGO (Reuters) - If the U.S. economy does not show signs of sustainable improvement this quarter, the Federal Reserve should dig into its toolbox to find new ways to help it along, a top Fed official said on Thursday.
The Fed has held short-term rates near zero since December 2008 and, in an unprecedented move, bought a total of $2.3 trillion of long-term securities to stimulate an economy struggling to right itself after the worst downturn since the 1930s.
But signs the U.S. recovery is flagging - again - suggest the economy needs more gas, and soon, Chicago Federal Reserve Bank President Charles Evans told a small group of reporters in a joint interview.
“If it were easy to do, if we had a very effective policy tool like a positive funds rate, if we could cut that by 100 basis points, then I would almost surely be advocating something like that,” Evans said. “But in the absence of that, I think we have to think about the other tools.”
Just as it was last November, when the Fed embarked on its second round of asset purchases, the economy is suffering from high unemployment and inflation pressures that are still below desirable levels, he said. Normally, he said, those circumstances would call for further easing.
But the Fed has used up its best policy tools, including lowering short-term rates and buying long-term securities, an approach that was very effective at first but became less effective over time, he said.
Fed Chairman Ben Bernanke has suggested that much of the recent weakness in the economy is due to transitory factors that will ease up shortly. Evans, a noted policy dove who votes on the Fed’s policy-setting panel this year, said he’s rethinking that idea.
“If we continue to have weakness in the third quarter, it’s going to be harder to plausibly sustain this idea that, ‘oh well, the next six months, it’s going to get better,’” Evans said. “We’ve been saying this for quite some time.”
Some of Evans’s colleagues on the Fed policy-setting panel have suggested that improvements in inflation since the Fed’s last round of bond-buying suggest the Fed’s next move should be tightening, not easing.
Core inflation has more than doubled, registering 1.6 percent in the 12 months through June. But Evans, a former economics professor, compared that performance to a “D” student who worked hard to up his grade substantially — to a “C-.”
“That’s a pretty good improvement, but it’s still woefully inadequate,” he said.
Rather than do more bond-buying to boost the economy, he said, the “most attractive approach” would be to provide more precise guidance on for how long the Fed will keep rates low. Currently, the central bank has vowed to keep them low for an “extended period,” and the bank could harden that commitment by setting an exact date, he said.
It could also institute so-called price-level targeting, in which it explicitly allows for inflation to rise above the 2 percent target to make up for periods at which at ran below the target.
But Evans said he would support more bond buying, should the circumstances call for it.
“In the situation where I think that it is appropriate and possible to embark on more appropriate monetary policies, I would be willing to support most any policy that arguably was going to be effective and more accommodative,” he said.
Evans, meanwhile, said he was hopeful the United States would avert the crisis that could ensue if lawmakers do not break an impasse over deficit cutting and raise the $14.3 trillion U.S. debt ceiling before an August 2 deadline. Failing to do so, he said, would likely drive up interest rates, undercutting the Fed’s easy monetary policy and damaging the economy.
“I’m hopeful” they will avoid that, he said.
Reporting by Ann Saphir, Editing by Chizu Nomiyama