MNI INTERVIEW: Williamson Says Fed Should Conserve Firepower

--Reducing Policy Room May Prompt Risky QE In Downturn

By Jay Zhao-Murray and Greg Quinn

     OTTAWA (MNI) - The Fed has been overeager with rate cuts amid trade

tensions and should save what firepower it has left for a clear emergency,

former St. Louis Federal Reserve vice president Stephen Williamson told MNI.

     Stimulus is doing little to boost business spending and Chairman Jay Powell

has confused investors with messages about insurance or a mid-cycle adjustment,

he said. The danger now is that the Fed will slash interest rates to zero when a

real downturn hits, prompting it to resort to further quantitative easing in

keeping with a policy pattern that has failed in Japan, he said.

     Fed policymakers cut rates in a split decision Wednesday and said they

stand ready to take appropriate action in the face of weak exports and

investment. The FOMC may pause at their next meeting or look to start slashing

rates if the economy moves from uncertainty to major weakness, Williamson said.

     "If they start to see negative things in terms of real activity, they're

going fast to zero. Given what they've done with no hard data, if they see bad

things in the hard data, they're going down fast," he said at Western University

where he now teaches.

     The Fed's line about making a short-term correction in policy is out of

step with its history of moving rates gradually and consistently over time,

giving certainty to investors and business, he said. Such a short-term and small

move won't do much good when major parts of the economy like the labor market

show little distress, he said.

     "All this is based on is what you would call soft data, uncertainty about

trade. You could call it Trump uncertainty. That's really what's driving this,"

he said.

     "You think you would want to save it until it's obvious you've got a

problem to deal with. So, this idea of "insurance" in this context doesn't make

any sense to me," Williamson said.

     He said calls to cut by 50 basis points, from President Trump and St. Louis

Fed President James Bullard, would, if acted upon, leave less policy room if the

economy were really stuck six months from now. "What do you do then if now

something really bad happens?," Williamson said.

     Policy makers have put too much faith in the power of large-scale asset

purchases, Williamson said, noting that these also reduce the supply of

collateral available to financial markets.

     Japan is a powerful example of how QE can fail, he said. "The central bank

balance sheet in Japan is about 100 percent of GDP, and in spite of all that,

all those asset purchases, they've got no sustained inflation. It didn't work."

     Williamson, also a research fellow at the Bank of Canada, said further Fed

cuts will pressure the BOC to do the same. Governor Stephen Poloz has held his

key rate unchanged this year, and earlier this month said the domestic economy

has been resilient to the U.S.-China trade war.

     "If there was a significant Canadian dollar appreciation relative to the

U.S. because of the interest rate differential, then they might start to care

and follow the U.S. move. But a lot depends on domestic labor markets, and real

GDP growth, and so far things look good here," Williamson said.

--MNI Ottawa Bureau; +1 613-314-9647; email: jay.zhaomurray.ext@marketnews.com

--MNI Ottawa Bureau; +1 613-314-9647; email: greg.quinn@marketnews.com

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