Despite the unprecedented expansion of its balance sheet, including a new programme to buy long-dated US Treasury bonds, the actions of the Federal Reserve System will neither undermine the US dollar nor spark inflation, argues Richard Fisher, president and CEO of the US Federal Reserve Bank of Dallas.
"I've loudly argued that these risks are a real and present danger," he says, using his reputation as an inflation hawk to bolster his argument, but insisting that all 12 chairs of the various Federal Reserve banks and the central committee members chaired by Benjamin Bernanke are "determined not to violate the tenants of the sanctity of the Federal Reserve".
Fisher became head of the Dallas Fed in 2005. He has also served as vice-chairman of strategic consultancy Kissinger McLarty Associates, assistant to the secretary of the Treasury during the Carter administration (which saw him at the signing ceremony with Deng Xiaopeng inaugurating US diplomatic ties with China), and deputy US trade representative under the Clinton administration in which he oversaw the implementation of Nafta and helped negotiate the bilateral accords to bring China and Taiwan into the World Trade Organization.
Fisher says the Fed's goal is to engender sustainable economic growth and price stability, but right now the US faces deflation and job destruction. Wage cuts, rising unemployment, the loss of wealth in property and capital markets, declining consumption, declining business investment and dysfunctional credit markets all reinforce downside price pressures. Fisher says the Fed's challenge when it comes to price stability is not inflation.
As for the dollar, he points to the rise of the greenback since the Fed embarked on its long list of activity, which may see its balance sheet expand by $2.5 trillion in fiscal year 2009, versus $780 billion in FY08. This expansion will, all things being equal, lead to higher yields and lower prices, which hurts investor returns. But Europe and Japan have problems of their own. The attractiveness of alternative currencies will also depend on the efficacy of Congress's fiscal stimulus package. Fisher ruled out the Fed monetising the growth of its balance sheet, thanks to its independence.
This bullishness on the dollar was challenged by a question from the audience (Fisher's talk in Hong Kong was under the auspices of the Asia Society). A global FX researcher at a bank in Hong Kong suggested the rise of the dollar is not based on a vote of confidence in the US, but a result of de-leveraging, as various investors sought to pay back debts in US financial assets.
Fisher's response is that investors go where they think they can get the best return, and that the US has a number of competitive advantages that will continue to draw global investment -- if Washington can restore credit, if inflation is avoided, and if the stimulus package is effective. Fisher says the Fed has been the first-mover in many of its new activities, which are now being considered by other central banks, and the US economy may well be the first to return to normal. Lastly, the US is the only sophisticated economy with good demographics, including not only a growing population but a younger one as well.
Looking down the pike, however, bigger dangers lurk than the housing market or the credit crunch. Fisher says in the long run, unfunded liabilities related to healthcare must be addressed or the economy will be crippled. Estimates vary, but anywhere from $53 trillion to $80 trillion worth of commitments are already on the government's books for healthcare entitlements. This is already forcing younger people to save more, in expectation that the baby boomers won't leave anything in the government kitty, and this will curb potential consumption for many years. "People of my generation are borrowing from our children," Fisher says.