Fed's George still uneasy about Fed's continued bond buying

MADISON, Wisc. Thu Jan 9, 2014 1:30pm EST

MADISON, Wisc. Jan 9 (Reuters) - The Federal Reserve's decision to dial down its enormous bond-buying program is a small but positive step toward a more normal interest-rate environment, a top Fed official who has long opposed the policy said on Thursday.

But the fact that the Fed continues to buy assets and plans to keep interest rates near zero for the foreseeable future is still cause for worry, according to Kansas City Federal Reserve Bank President Esther George.

"(M)onetary policy is likely to remain highly accommodative for some time with additional (albeit reduced) asset purchases under the current program and an extended period of low interest rates," George said in remarks prepared for delivery to the Wisconsin Bankers Association. "I remain concerned about the potential costs and consequences of these untested policies."

The Fed has kept interest rates near zero for more than five years and has promised to keep them there until well past the time that unemployment, now at 7 percent, falls another half a percentage point.

The U.S. central bank has also bought trillions of dollars of Treasuries and mortgage-backed securities, pushing down long-term borrowing costs in an effort to spur hiring and investment.

George consistently used her vote on the Fed's policy-setting panel last year to protest that program, known as quantitative easing, citing her worries that it could fuel future inflation.

Last month, citing the improvement in the economy, Fed Chairman Ben Bernanke led the panel in a decision to pare the program, to $75 billion a month from $85 billion. He also said the central bank expects to wind the program down completely by late 2014, but took pains to assure investors the Fed will be patient on raising rates.

George voted in support of the move, but on Thursday made clear she is far from comfortable with the Fed's current stance.

"An extended period of zero interest rates is not conducive to good banking and encourages a reach for yield," she said.

George said she expects the U.S. economy to grow about 2.5 percent to 3 percent this year, as fiscal headwinds abate and the job market improves.

While several of her colleagues have worried publicly about inflation running well below the Fed's 2-percent target, George said she does not share those concerns, and attributed low inflation to special factors like lower-than-usual healthcare costs and low import prices.

George used much of her speech to advocate for policy changes that could reduce the threat from so-called "too-big-to-fail" banks, and suggested that one possibility is to adopt a modern version of the Glass-Steagall Act that prevented banks from reaching into non-bank businesses.

"In the near-term, timely shifts in monetary policy and better calibration of regulatory requirements may offer potential relief to smaller banks," she said, but for the longer-term, ending too-big-to-fail through policy change is key to a healthy economy.

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