Yellen sees no need to change monetary policy

Washington (July 3)   Federal Reserve chairwoman Janet Yellen said there is no need to change current monetary policy to address financial stability concerns although she sees “pockets of increased risk- taking” in the financial system.

In a comprehensive salvo into the global debate among central bankers over whether interest rates are a first-order tool to curb financial excess, she came down against that idea and in favour of regulatory mechanisms.

“Monetary policy faces significant limitations as a tool to promote financial stability,” Ms Yellen said on Wednesday at the International Monetary Fund in Washington.

“Its effects on financial vulnerabilities, such as excessive leverage and maturity transformation, are not well understood and are less direct than a regulatory or supervisory approach.”

She said the “primary role” should fall to a macroprudential approach, a combination of multiagency oversight, attention to bank capital and liquidity, and regulatory pressure to create buffers against failure.

Economists said her comments seemed to lean against the view of former Fed governor Jeremy Stein, who left the central bank in May to return to Harvard University.

Mr Stein in a speech last year favoured keeping “an open mind” on using monetary policy to control asset-price bubbles. Shifting interest rates “gets in all of the cracks” of the financial system while the Fed’s regulatory reach only extends to banks, he said.

Ms Yellen is “pushing back on what he said,” said Dana Saporta, a US economist at Credit Suisse in New York. “She clearly believes macroprudential policy should be the primary tool.”

US stocks rose to an intraday record, with the Standard & Poor’s 500 index increasing 0.1% to 1,974.36 in New York. The yield on the benchmark 10-year Treasury note rose 0.05 percentage point to 2.62%.

Ms Yellen’s comments are significant because economists worry that central banks may be causing a worldwide reach for yield as interest rates are suppressed by monetary policy.

“A powerful and pervasive search for yield has gathered pace,” the Basel, Switzerland-based Bank for International Settlements said on June 29.

 The Federal Reserve has kept the benchmark lending rate near zero since December 2008 and is buying longer-term Treasury debt and mortgage-backed securities, holding down yields on the safest debt.

Policy rates in Japan, the euro area, and the UK are all below 1%.

In the US, bank regulators have tried to limit risk, issuing guidance on high-yield, high-risk leveraged loans in March last year.

The directive, which is less stringent than a rule, was unusually prescriptive, saying that debt levels exceeding six times a measure of earnings “raises concerns for most industries.”

Still, US leveraged loans sold to institutional investors have topped $329bn so far this year, the third biggest first half on record, following last year’s record $414bn in the first six months.