Fed’s Charles Plosser Says Stimulus May Backfire While Fueling Inflation

Federal Reserve Bank of Philadelphia president Charles Plosser said the central bank’s record stimulus risks a surge in inflation and may impair efforts by households to repair their finances.

“Attempts to increase economic ‘stimulus’ may not help speed up the process and may actually prolong it,” Plosser said in the text of a speech today in Somerset, N.J.

Policy makers are discussing how long they will keep buying mortgage bonds and Treasuries as part of efforts to boost growth and bring down a 7.8% unemployment rate. The Fed last month linked its interest-rate outlook to economic thresholds, saying borrowing costs will stay low “at least as long” as joblessness exceeds 6.5% and if projected inflation won’t go beyond 2.5% one or two years in the future.

“Efforts to drive real rates more negative or promises to keep rates low for a long time may have frustrated households’ efforts to rebuild their balance sheets without stimulating aggregate demand or consumption,” said Plosser, who doesn’t vote on monetary policy this year. He has repeatedly criticized Fed easing for risking higher inflation and jeopardizing the central bank’s credibility, and said the latest stimulus steps do little to boost growth.

Low interest rates reduce returns for savers and do little to encourage businesses to expand payrolls or invest in new ventures, Plosser said.

“Monetary policy accommodation that lowers interest rates is unlikely to stimulate firms to hire and invest until a significant amount of the uncertainty has been resolved,” he said. “Firms have the resources to invest and hire, but they are uncertain as to how to put those resources to their highest valued use.”

Still, Plosser reiterated his view that unemployment will drop to near 7% by year’s end and the U.S. growth rate will pick up this year to about 3%, which he said was “at the high end” among Fed policy makers.

The U.S. economy may expand at a 2% pace in 2013 after a 2.3% gain last year, according to the median forecast among economists surveyed by Bloomberg News this month.

“Inflation expectations will be relatively stable and inflation will remain at moderate levels in the near term,” Plosser said. “However, with the very accommodative stance of monetary policy in place for more than four years now, we must guard against the medium- and longer-term risks of inflation.”

Kansas City Fed president Esther George said yesterday that the Fed’s stimulus may fuel the risk of financial instability and a surge in inflation. Policy makers in December added $45 billion in outright Treasury purchases per month to their mortgage-bond buying of $40 billion a month.