NY FED'S DUDLEY: I Voted Against The Taper Because The Economy Failed My Two Tests

William dudley federal reserveREUTERS/Brendan McDermidNew York Fed president William Dudley addresses the Association for a Better New York in New York, July 29, 2009.

A bunch of Federal Reserve officials are
speaking this week. And the whole world will be listening carefully because last week the Fed unexpectedly said it was delaying the tapering of its large-scale asset purchase plan, which includes the purchases of $US85 billion worth of Treasury securities and mortgage bonds.

This morning, New York Fed President Bill Dudley spoke at the Fordham Wall Street Council in New York City. He explained why he voted against the taper. Specifically, he had two tests that the economy didn’t pass:

…Several questions have emerged following the meeting. Most noteworthy was — given that market expectations were skewed towards anticipating the beginning of a taper at this meeting — why the Committee did not begin to reduce the pace of asset purchases. Although I can’t speak for the Committee, I can provide some reasons for my own decision.

To begin to taper, I have two tests that must be passed: (1) evidence that the labour market has shown improvement, and (2) information about the economy’s forward momentum that makes me confident that labour market improvement will continue in the future. So far, I think we have made progress with respect to these metrics, but have not yet achieved success.

With respect to the first metric, we have seen labour market improvement since the program began last September. Over this time period, the unemployment rate has declined to 7.3 per cent from 8.1 per cent. However, at the same time, this decline in the unemployment rate overstates the degree of improvement. Other metrics of labour market conditions, such as the hiring, job-openings, job-finding rate, quits rate and the vacancy-to-unemployment ratio, collectively indicate a much more modest improvement in labour market conditions compared to that suggested by the decline in the unemployment rate. In particular, it is still hard for those who are unemployed to find jobs. Currently, there are three unemployed workers per job opening, as opposed to an average of two during the period from 2003 to 2007.

With respect to the second metric — confidence that the economic recovery is strong enough to generate sustained labour market improvement — I don’t think we have yet passed that test. The economy has not picked up forward momentum and a 2 per cent growth rate — even if sustained — might not be sufficient to generate further improvement in labour market conditions. Moreover, fiscal uncertainties loom very large right now as Congress considers the issues of funding the government and raising the debt limit ceiling. Assuming no change in my assessment of the efficacy and costs associated with the purchase program, I’d like to see economic news that makes me more confident that we will see continued improvement in the labour market. Then I would feel comfortable that the time had come to cut the pace of asset purchases…

“I do believe that we are making progress towards our objectives of maximum sustainable employment in the context of price stability,” he said in his conclusion. “The economic fundamentals are improving and I expect that the healing process will continue in the coming months and years. At the same time, it is important to recognise that the financial crisis generated significant headwinds that are only slowly abating. We must push against these headwinds forcefully to best achieve our objectives.”

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