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NIGHTLY BUSINESS REPORT INTERVIEW WITH PHILADELPHIA FEDERAL RESERVE BANK PRESIDENT CHARLES PLOSSER CORRESPONDENT: SUSIE GHARIB

PRODUCER: ANDY ROTHMAN JUNE 10, 2013 SUSIE GHARIB: President Plosser, first of all, thank you so much for talking tonight with Nightly Business Report, we really appreciate it. PRESIDENT CHARLES PLOSSER: Well, thank you for coming here. It's great to have you. GHARIB: So, let's begin with the question people are most wondering about. When do you think the Federal Reserve will begin cutting back on its stimulus, what everybody calls QE? PLOSSER: Well, I think that's very hard to say. I was not a big fan, as you know, of starting it. So I'd rather bring it sort of back-- to reduce it as soon as we can. But having said that, the Fed did say we will dial these monthly purchases up or down depending on the state of the economy. And I think that it's important that when the economy improves, that we react to that. Because if we don't, we're losing our own credibility about how this-- program is supposed to work. So I think we can easily dial it back, lower the pace of purchases somewhat, see how things go, things continue to improve, we can dial it back a little more. I think that's the way to think about it. GHARIB: When do you think the Fed should begin that process? PLOSSER: Well, if it was-- if it was just up to me, I would begin the scaling back, toning down the dial, the volume a little bit at this next meeting. I think the economy can stand that and I think it's justified based on the improvements on the economy since last September. GHARIB:

When you talk about cutting back on the stimulus, what happened to waiting until the unemployment rate gets a lot stronger, down to 6.5% the target that the Fed has set? PLOSSER: Well, remember, we do-- we're operating with two tools here. One is the interest rate, which is our federal funds target, which is essentially at zero. And what we've said is that 6.5% unemployment rate is a threshold. That's when we would consider to begin moving the shortterm interest rate up. But before we can do that, we are still buying assets. So we're not going to raise interest rates until we stop buying assets. Because the asset purchase program is an effort to provide ever more stimulus. It's trying to increase the level of accommodation. And so we're going to have to do that first. And so at some point, we're going to have to say, "Things have been improving enough and the outlook is better enough that we can dial the purchases back." Eventually, we need to do that before we get to the 6.5% unemployment break. But-- that may be a while yet. GHARIB: My understanding though was that the Fed had set this target of 6.5% and wouldn't even consider cutting back of the stimulus until the unemployment rate got a lot better. PLOSSER: Because that's when we'll consider raising the federal funds rate, which is our primary inserted monetary policy. Six and a half percent threshold, it's not a trigger, but a threshold, was the statement that applied to when the Fed would consider raising the federal funds rate, or our target for interest rates. But before we do that, we have to stop buying assets. We can stop buying assets and still-- have the interest rates stay low until we reach the threshold or somewhere around the threshold of 6.5%. GHARIB: And why are you confident that the U.S. economy can withstand this policy change as soon as the June meeting? PLOSSER: Well-- I think two-- several things are going on. One is the spiked increase in payroll taxes, despitesequester, the economy's still growing. And the labor market is doing much better than people thought. So you went back and thought what people said back in January about what they thought was going to happen to the economy, to consumption, to employment, because of the sequester and the payroll tax. They thought things would be much, much weaker than they have turned out to be. So I think we're weathering that pretty well. I think manufacturing's still a little weak. I think that partly has to do with overseas economies and the world, global economy. But the domestic economy is improving on a pretty good state, pretty good pace. And I think the other thing things important is housing. Housing is doing very well right now. And that's been

one of the weakest parts of the economy for a long time now. And so I think it's a good sign that housing is recovering. I don't see that a change, a small reduction in the pace of purchase will have that much effect on the economy at all. I just don't believe it will be that noticeable for the broader economy. Financial markets will react, there'll be some volatility presumably, and they'll react. But the person on Main Street, the person looking for a job, or the company trying to hire a person for a job will largely be unaffected by this, I think. GHARIB: But why not wait until the economy gets a lot stronger? PLOSSER Well, we could always do that, but then the risk is, is that you get behind the curve and interest rates begin to rise very fast. All the reserves that we created in the banking system begin to flow out of the economy. That would be a good sign, except, that's going to put the risk of very much higher inflation down the road. And so we've got to be able to time our exit, if you will, in a way to meet both the growth of the economy, but also keep inflation under control. GHARIB: So what are your thoughts on today's news that Standard & Poor's has raised its outlook on U.S. debt from negative to stable? What is that telling you? PLOSSER: I think that's a positive sign. But fundamentally, we haven't solved our fiscal problem. We are still on an unsustainable fiscal path. Congress has done nothing to really address that at this point. Still needs to be addressed. So while it's favorable, it's not-- I don't really believe we've stopped our fiscal crisis. GHARIB: What do you think are the chances that your colleagues on the Fed will vote at next week's policy meeting in favor of starting the process of cutting back on stimulus? PLOSSER: Oh, I never speculate on what my colleagues are going to say any more than they speculate on what I will say. (LAUGH) So it will certainly be a topic of discussion. But I don't think anybody decides for sure until they hear what everybody has to say. That's the beauty of our system and the beauty of the meetings, that everybody gets into a room, we talk about what we hear, we talk about our ideas, we listen to what each other have to say. And that's the beauty of the system. And there's not a particular-- I think it's important that we not slip into group think, if you will, and-- as Walter Lippmann used to say, "Where all men think alike, no one thinks very much." And I think it's important that we have these conversations. So we will-- we will deliberate. GHARIB:

There have been a lot of speeches by Fed policy makers like yourself. You must have some-sense of where the thinking is. PLOSSER: Well, you-- you can read their speeches as well as I can. (LAUGH) Many of them have talked about it. Some of them talked about doing it sooner rather than later. They're all kind of struggling with how to calibrate this particular purchase program. Because it's different than moving interest rates around. It's a purchase program. And it's not related to the 6.5% threshold. So judging how we calibrate the degree to which we turn up the dial or turn down the dial, is something we don't have a lot of experience with or much theory to judge on. So we're doing this through judgment and through discussions with each other and our colleagues, talking about how do we think about that. And it's a bit-- it's a tricky problem. GHARIB So if it doesn't happen at the June meeting, could it happen by, let's say September? PLOSSER: Sure, sure. I mean, again, depends on how the economy evolves. All of this is about responding to the state of the economy. And if it doesn't happen now, and the economy continues to improve, the longer the economy continues to improve, the more comfortable they'll-- the committee feel that it can dial this back without having adverse consequences, if that's what they're afraid of. And different -- these are judgment calls about what those adverse consequences might be, or the positive consequences might be for stopping the fueling of financial imbalances around the country. So we're making very tough judgment calls about how to you weigh the cost of benefits to this-- of these policies and-- I think that different people will come down on different sides of those cost benefits. But we'll have to make those judgments. GHARIB: Is the timing really that important? Does it matter that the cutback and the stimulus begins in June instead of in September? PLOSSER: Well, I think again it probably depends on the economy and what you think is going to be important. I think the longer we stay in, obviously, the more we achieve-- more assets we accumulate. And so when the time comes to reverse course, the bigger balance sheet we have or the bigger problems we're going to have. So part of this is about mitigating challenges we have when we want to shrink the balance sheet later on. GHARIB: Looking at the markets, we've seen how the mere discussion of removing stimulus, what it's done to the markets. What do you think the reaction will really be once the Fed does something? PLOSSER: Well, two things. One is we're not removing stimulus. We are slowing the pace of providing more stimulus. (LAUGH) And that's different. We're not removing it. Even if the committee decides to cut back on purchases, we'll still be purchasing. We're not stopping the purchases.

And as long as we're purchasing, we're providing more stimulus every month by whatever amount of purchases that we do. So we're not really removing risk. GHARIB: But, I mean, to the extent that there has been a discussion and a debate-- that's been going on for a while and we've seen, you know, tremendous volatility in the stock market. So what do you think the reaction will actually be when there's really action? PLOSSER It depends on which market it is. Different markets will react differently. There are many people out there who would welcome some further rises in increasing the interest rates and longterm rates if we got out of this. So I think it depends on which market you're talking about and which players you're talking. Markets will make a judgment and they will set prices based on what they think we've done. And basically what we think the future is. Because one of the dangers, of course, is that markets tend to be forward looking. And then the question's going to be in part about this strategy that we have in place is how do we communicate what the future's going to look like. And right now, some people worry that if we cut back even a little bit, that means we're going to end this thing immediately or in the very near future. But I don't think it has to mean that. I think it just means that we're going to slow down, see how the economy performs, and then make judgments later on, whether it should be slowed down some more. I think it's a perfectly logical and reasonable way to proceed. But markets need to be focused on ending it all together. I don't think we have to make that decision right now. GHARIB: Well, let's talk about the stock market. We've seen triple-digit gains in the Dow and triple-digit losses on anticipation on what the Fed is going to do and how they're going to do it. Are you worried that there could be a big stock selloff once the Fed really starts this process? PLOSSER: No, I'm not. GHARIB Why not? PLOSSER: Well because I think it depends on what you believe the underlying mechanisms are in the marketplace. If the market is doing well, because households are doing better, because the housing market's doing better, because firm's profits are still strong and they have lots of cash, their balance sheets are strong, then there's no particular reason why the markets should sell off. And if it does sell off, I think you have to ask the question, "Well, gee, was all that really real? Was it just ephemeral? And if it was ephemeral, you don't want to feed some sort of frothiness, if you will, in the marketplace. Because the longer you do that, the bigger-- the bigger the downside risk might be when you have-- actually do have to stop.

GHARIB You know, since the beginning of this whole QE program, we've seen the stock market really rally. Are you concerned that there could be a big stock market selloff once the Fed takes its foot off the gas, and that Americans will feel less well off because they're the ones that have been really propping up the economy? PLOSSER: Well, let's remember one thing. Monetary policy doesn't increase wealth. We don't create goods and services. We're just changing the price of those things in some cases. So we're not really creating wealth in that sense. And our goal is not the stock market. Our goal is not the financial markets. Our goals are obtaining price stability and improving employment. And so we need to look through and we need to be careful as policy makers to look at the longer term. Look at the medium to longer term, about what the appropriate policy is. If we get too focused on the short-term effects of financial markets, we can make some very bad policy mistakes. It's very important that we look longer term and not react to just the weekly or monthly numbers that come out from Washington or the financial markets. GHARIB: That's true. But what have been your thoughts about the reaction in the bond markets? We've already seen rates have backed up. I mean, how worried are you that higher interest rates could derail this recovery? PLOSSER: Well, a lot of people suggested it might derail the recovery-- that's clearly what people are worried about. I don't happen to think that's the case. GHARIB: Why not? PLOSSER: And I think in some point, the market's going to have to-- and the economy's going to have to withstand higher interest rates. And the risk, if we don't move interest rates higher, you've got the whole other side of the financial risk, the risk of creating bubbles or asset booms that are uncomfortable that will have to be unwound. Because if the markets and the financial asset prices get too inflated, that are not supported by real economic growth and potential, then you've got a whole nother risk of bursting those bubbles, if you will, and turning around and finding yourself in a much worse financial position. GHARIB: I'd like to ask you a little bit about the housing market because I'm wondering how these higher rates could impact the still-fragile housing recovery. PLOSSER:

Well, we hear that all the time, and that's true, it might. But again, mortgage rates have already come up a little bit. And again, I think the reality is, is that we have to withstand those things. We're having housing prices rising, you know, depending on which index you look at, 8% to 10% a year, year over year right now. We don't want to get so far into a boom in the housing market that we create the problem that we had five, six years ago. So, I'm not really worried about that. I think that markets will adapt and the economy will adapt. But if all of this froth, and it's really based on pure monetary policy, that should be deeply worrying to us, because it's not real. GHARIB: Are you worried about a bubble brewing in the housing market? PLOSSER: Well, no, not yet. But the housing market is strong right now, it's very strong right now. So why not take the opportunity when a market is strong to pull back somewhat from your support of that market, so that it can begin to stand on its own feet and not rely on monetary policy to kinda keep it alive, because I don't think that's not what's happening right now, I don't think. GHARIB: Let's say that the housing market does stumble. Would you be in favor of pumping in more stimulus? PLOSSER: Probably not. It depends on how that plays out. And what do you mean by stumbling? I'm not-again, I think the sustainability of the housing recovery right now is pretty good. It's broad based around the country. And so I'm not worried about small rises in mortgage rates that might be attributed to this, to break that process down. I think it's underway. GHARIB: We've seen that the rate on the 30-year mortgage is now over 4%. Where do you think that rate will be by, let's say, at the end of the year? PLOSSER: Oh, I don't predict those kinda things. What we do know is that even at over 4%, slightly over 4%, historically, that's a very low mortgage rate. (LAUGH) Very low, by any stretch of the imagination. The only time it's been lower than that was for a little while in the last two or three years. GHARIB: You know, there's all of this debate about QE and stimulus and tapering it back. Does this suggest that the economy is cured? PLOSSER:

Well, I'm not sure what-- it depends on what you think ailed it in the first place, what the disease was. I think that the economy is getting stronger. I think it's doing better. I wish it were getting better faster, particularly in the labor market. There's no question about that. But I'm not sure that monetary policy is the key to making that happen right now. And in fact, monetary policy could be sowing the seeds of challenges later on. We need to be careful that we don't get so focused on the short run that we forget the consequence, the long-run consequences of some of our policies. GHARIB: When are we going to see full employment or even the unemployment rate at 6.5%? PLOSSER: Well, my own forecast is that if you look at what the unemployment rate has done over the last three years, it's dropped about three-quarters of a percentage point every year for the last 30 years. My own forecast is that we'll see that again this year in 2013. And we're on track to do that. That would put the unemployment rate in December of this year, close to 7%, probably. And if we saw another similar decline the following year, we'd be below 6.5% some time in 2014. I think that's not an unreasonable forecast at this point. Given the progress we've seen over the last three years, I think we'll see unemployment down to 7%, close to 7% by this year, and probably below 6.5% by the end of 2014. GHARIB: You know, President Plosser, this has been a historic period for the U.S. economy. When historians look back on this period of this massive QE stimulus, how will it be viewed? Will it be seen that it was effective? PLOSSER: Well, that's (LAUGH) that's a big question. And it's going to take many, many years and many, many researchers to determine that. After all, we're still studying the Great Depression, debating about what the great policies were then. So I don't think we'll know for a long time. But clearly, it's been a highly unusual period for the economy and for monetary policy. We've stepped out of the box, and it's going to be a long time before we can look back and really answer questions in-of that detail very well.

GHARIB: Well, rather than putting it in the perspective of an economic historian, how about from your perspective? As you look back on this period, do you think you'll look back on this period of massive stimulus that it was a success, it was a necessary, it was an effective thing to do? PLOSSER: Well (LAUGH) again, it's a question of degree. So I think clearly stimulus was called for in this economy. There-- since 2008, it was aggressively called for, I think we've done that. The

question is have we overstayed our welcome. And that will be a while before we know the answer to that. SUSIE GHARIB: President Plosser, thank you so much for your time. It's always a pleasure talking with you. PLOSSER: Thank you very much, Susie. It was great to be with you.

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