James Bullard, the president of the Federal Reserve Bank of St. Louis, dissented from the Fed's policy statement Wednesday, arguing that it was unwise to start addressing an exit from quantitative easing policies when inflation has been falling and growth has been modest. He sat down with us Friday morning at the Madison Hotel in Washington to discuss his dissent, his views on the state of the economy and why Wednesday's Fed policy move represents a more hawkish FOMC. This transcript is lightly edited for length and clarity.
Ylan Q. Mui: What can you tell us about the meeting this week and why you oppose laying out a timeline for ending QE. Why did you dissent?
James Bullard: I can't talk about the meeting itself because that's not allowed, so all I can talk about is my own views, which I also tried to lay out in a statement this morning. The main thing is that the inflation data has come in lower than expected, and growth for the year was being revised down at the meeting. Normally, if you had a Taylor rule or something, those factors would call for something more accommodative than whatever you had before those factors came in. And yet we did something that was more in the hawkish direction by laying out the approximate timetable for pulling back on QE. I thought it was the wrong kind of response given the way the data were coming in, and I think the committee should be more respectful of responding to data in a systematic way. That's what builds confidence with markets. They can understand what your reaction function is. They can see they always react this way to this data, or that way to other kinds of data.
Y.Q.M.: You think this was an inappropriate time to lay out this timeline. So when do you think would be a better time to announce the timeline?
J.B.: Normal behavior by the committee, I think, would have been to at this meeting stand pat, to say we're considering everything. Then at some point in the future you would get stronger data on the real economy, maybe some higher inflation numbers. Then at that point you'd be able to say, the data is coming in stronger, inflation has turned around a little bit, so we're going to announce this path forward on QE.
Neil Irwin: We've all been talking about tapering QE in the last few months. But does anything in the recent inflation data make you think the next move might actually be to expand bond purchases?
J.B.: Well, this inflation trend is not explained at this point, because it's been a surprise on the downside. If it continues to go down and we don't have an explanation for it, we may have to be more aggressive to try to arrest that trend.
Y.Q.M.: What counts as more aggressive?
J.B.: A more aggressive QE program even than we have right now. The committee's not thinking that way, but that could develop if the inflation trend continues to go down. I'm not saying that's the most likely scenario. I think the chairman has it right and the committee has it right that the most likely scenario is that this is somehow noise in the data, and inflation will come back up in the fall. I think it's reasonable to have that expectation. But I would like to see some tangible evidence before the committee goes off and announces a baseline plan on reducing accommodation.
N.I.: So is your objection and reason for dissenting that you disagree with the pathway for policy that was laid out, of ending QE when unemployment hits about 7 percent and raising short-term rates when unemployment is about 6.5 percent or lower? Or is it that you disagree that now was a good time to lay that out?
J.B.: One thing I did not like is that there was some creep back to date-based forward guidance, in particular his talk of by mid-summer of 2014 not purchasing anything at that point. There's some effort to make that a little more state-contingent by talking about 7 percent unemployment as a threshold. But I'm not sure the committee has thought that through completely, because my own forecast has unemployment continuing to drift downward as the year goes on, so that could pull up the tightening sequence faster than the committee really wants to. I'm not sure we've completely thought through that threshold issue. And there's no reference to the issue of what inflation is doing at that point.
I've been an advocate of doing things on a state-contingent basis and responding to data. So I didn't like the creeping in of a calendar date. I think we've had a lot of trouble with our calendar dates for forward guidance in the past.
Y.Q.M.: From your vantage point, what was the rationale for adding that time component of the likely endpoint of QE?
J.B.: I think you have to ask the others on the committee. I voted against it. One of the things I argued was we've had calendar dates in the past, and worked pretty hard to get rid of them. In the press conference, the chairman did a good job of mentioning 7 percent unemployment, making it more state-contingent.
Y.Q.M.: Is 7 percent an appropriate threshold in your view?
J.B.: If you look at my past comments, I have said by the time we get into the low 7's on unemployment, we're going to have to admit that the labor market has improved substantially -- 7.1 percent would be a full percentage point below where we were when the QE program started. I think we have work to do on this whole dimension. And I've been a little bit disappointed that there's been so much focus on unemployment and we're taking our eye off the inflation ball here. Inflation is the thing that we can really influence in the medium term. On unemployment we might have a transitory influence, but in the medium and long-term, we're not going to influence the unemployment rate. I think we really need to get back to basics and think about what are we going to do about inflation in the medium-term.
Y.Q.M.: What would you need to see before you were comfortable with laying out the steps for ending QE?
J.B.: I just think if we had more definitive, tangible evidence that PCE inflation was rising back toward target, and we could tell a target that was clearly going to hit the target in a reasonable time frame, then I'd feel a lot more comfortable. Moving toward 2 percent, with maybe an improving economy, so that we can tell a story about the economic improvement, plus the data telling us that inflation is moving back toward target.
N.I.: Does some of this uncertainty in markets, both in the last 48 hours and in the last few weeks and month, does that make you reconsider some of the costs attached to QE?
J.B.: You know, I'll make a comment about the recent volatility. A lot of people said it's Fed communication. It wasn't Fed communication. This was tighter policy. It's all about tighter policy. You can communicate it one way or another way, but the markets are saying that they're pulling up the probability we're going to withdraw from the QE program sooner than they expected, and that's having a big influence
N.I.: Is that correct? Is this a more hawkish Fed today than it was a week ago or a month ago?
J.B.: Based on Wednesday's action, I would say it is.
Y.Q.M: One of the big questions has been is tapering the same thing as tightening. Where are you on that?
J.B.: The chairman is right to emphasize the difference between removing accommodation versus actual tightening of policy. Actual tightening would not occur until years from now, when the size of the portfolio was back closer to normal size, and you're at interest rates that are more normal. We're a long way from that, that's for sure. But markets of course are very sensitive to how much accommodation is the central bank offering, given the current economic circumstances. And what you'd be saying is that you're reducing that from what you previously were doing, and they were sensitive to that. I appreciate the chairman's emphasis that it will still be a very accommodative policy. The policy interest rate is still zero; longer-term rates are still very low; the balance sheet is still very large.
N.I.: You touched on this earlier, but how do you analyze the recent very low inflation. Is it transitory? Core inflation is low, too. It's not just headline.
J.B.: You know, if it was just headline, it would be one thing. I like headline better, other people want to focus more on core. But it's really a broad-based decline, and it's not just in the last few months. If you look back from early 2012 at all kinds of inflation measures, measured year over year, they're basically on a downward slide since that point. Also since we in the last few weeks and months here, the TIPS based inflation measures have also dropped and I think markets are expecting less inflation than they previously did. So what that has meant is that the run-up in Treasury yields has been all real rates, so this really is a tighter policy by conventional measures. If rates are rising and inflation expectations were rising, then you could kind of tell a story that the Fed has to get ahead of that process and keep that from getting out of control. That isn't what's happening.
N.I.: How are you thinking about growth and the employment outlook?
J.B.: I have been more optimistic on growth in 2013 than a lot of my colleagues. I was thinking we would have 3 percent growth this year. I thought we would have first quarter growth of 3 percent or a little better, but it's come in softer than that. For the second quarter, tracking estimates are 1.5 to 2. The first half hasn't come in as good as I had hoped, so I had to mark down my forecast for the full year. We're at 2.6 percent now. That just reflects the reality that the year so far hasn't been as good as I thought. I'm still expecting a better second half.
But you know, the Fed has been predicting a better future for a long time, and it just has not materialized. And so these forecasts aren't worth that much, including mine. So I don't think you should make important policy changes based on the idea that you're more optimistic about your forecast. You should wait until you actually see some data.
N.I.: Can the housing market handle a 70 or 80 basis point runup in mortgage rates?
J.B.: Of course it matters on the margin, what the mortgage rate is. But in the big picture, I think the psychology in the housing market has changed. You've got rising prices. That's forcing people off the sidelines. There is no longer a feeling you should wait to buy your house. If you wait, prices will be higher in the future, and probably interest rates will be higher in the future. So I actually think the housing turnaround has been broad based, and has been a more secular trend that may be affected on the margin by higher rates, but only on the margin. I think the basic trend is upward.
Y.Q.M.: That's good to hear. I'm buying a house.
J.B.: Is DC pretty active?
Y.Q.M.: DC is very active right now.
J.B.: If there's a house you like, there are a whole bunch of people making offers?
J.B.: I hear the same kind of story in all kinds of housing markets -- small towns, big towns, all different places. I think the national mood has changed. It makes sense. Prices are still way below what they once were, and rates are still quite low.
N.I.: So in the last few years, you've been on both sides of the hawk-dove debate on the FOMC, depending on circumstances. What's driving your evolution from a supporter of QE2 to an opponent of Operation Twist to now favoring easier policy right now?
J.B.: I was a big advocate of QE2, and if you remember what happened with QE2, we adopted the program in November 2010. At that point, inflation was quite low, and inflation expectations had dropped a lot. That all turned around in the first half of 2011. There was a global commodities boom. The Fed got criticized for that. By the end of 2011, even core inflation, even with all this slack int he economy, core inflation had gone to 2 percent. My feeling at that point was our work here is done. Because i though the Fed had done exactly what we needed to do to keep us out of the Japanese situation and push inflation back to target, and that we could start to think about how to normalize policy.
But since the first part of 2012, inflation measures have been coming back down, so now we're back in a low inflation environment, lower than i expected. yet the committee has sort of turned maybe a little bit more circumspect about how they want to respond to that.
That's where we are. One thing that hasn't happened this time, when we adopted this QE3, and really the full-fledged QE3 is really December of 2012. We've been in this game for about 5 months. And we have not had the. What's missing? It's the global commodities price boom that occurred with QE2 , that is not occurring this time. It's really clear why that is. Europe's in recession and China's slowing. That's why. From our perspective, we could say let's continue and provide more accommodation, because that channel isn't hitting us so hard this time as it did during QE2. Why don't we just continue the program, and eventually inflation will go back up to target? I guess that's how I'm thinking about it right now.