thomas m hoenig : monetary policy cannot solve every problem – concerns with zero rates statement by mr thomas m hoenig, president and chief executive officer of the federal reserve bank of kansas city, before the house subcommittee on domestic monetary policy and technology, united states house of representatives, washington dc, 26 july 2011. * * * chairman paul, ranking member clay and members of the subcommittee, thank you for the opportunity to discuss my views on the economy from the perspective of president of the federal reserve bank of kansas city and as a 20 - year member of the federal reserve system ’ s federal open market committee ( fomc ). the fed ’ s mandate reads : “ the board of governors of the federal reserve system and the federal open market committee shall maintain long - run growth of the monetary and credit aggregates commensurate with the economy ’ s long - run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long - term interest rates. ” the role of a central bank is to provide liquidity in a crisis and to create and foster an environment that supports long - run economic health. for that reason, as the financial crisis took hold in 2008, i supported the fomc ’ s cuts to the federal funds rate that pushed the target range to 0 percent to 0. 25 percent, as well as the other emergency liquidity actions taken to staunch the crisis. however, though i would support a generally accommodative monetary policy today, i have raised questions regarding the advisability of keeping the emergency monetary policy in place for 32 months with the promise of keeping it there for an extended period. i have several concerns with zero rates. first, a guarantee of zero rates affects the allocation of resources. it is generally accepted that no good, service or transaction trades efficiently at the price of zero. credit is no exception. rather, a zero - rate policy increases the risk of misallocating real resources, creating a new set of imbalances or possibly a new set of bubbles. for example, in the tenth federal reserve district, fertile farmland was selling for $ 6, 000 an acre two years ago. that land today is selling for as much as $ 12, 000 an acre, reflecting high commodity prices but also the fact that farmland loans increasingly carry an interest rate of far less than the 7. 5 percent historic average for such loans. and with such low rates of return on financial assets, investors

deleveraging that is hopefully winding down. if the purported benefits are small, what are the possible costs? first, without clear terms and goals, quantitative easing becomes an open - ended commitment that leads to maintaining the funds rate too low and the federal reserve ’ s balance sheet too large. the result is a further misallocation of resources, more imbalances and more volatility. there is no working framework that defines how a quantitative easing program would be managed. how long would the program continue, and what would be the ultimate size? would purchases of long - term assets continue until the unemployment rate is 9 percent or 8 percent or even less? would purchases continue until inflation rises to 2 percent or 3 percent or more? would the program aim to reduce the 10 - year treasury rate to 2¼ percent or 2 percent or even less? without answers to these and other questions, qe2 becomes an open - ended policy that introduces additional uncertainty into markets with few offsetting benefits. as central bank assets expand under quantitative easing, what will be the exit strategy? in the midst of a financial crisis, we may not have the luxury of thinking about the exit strategy. in current circumstances, however, we must define an exit strategy if the objective is to raise inflation but contain interest rate expectations. if history is any indication, without an exit strategy the natural tendency will be to maintain an accommodative policy for too long. while i agree that the tools are available to reduce excess reserves when that becomes appropriate, i do not believe that the federal reserve, or anyone else, has the foresight to do it at the right time or right speed. it may work in theory. in practice, however, the federal reserve doesn ’ t have a good track record of withdrawing policy accommodation in a timely manner. second, we risk undermining federal reserve independence. qe2 actions approach fiscal policy actions. purchasing private assets or long - term treasury securities shifts risk from investors to the federal reserve and, ultimately, to u. s. taxpayers. it also encourages greater attempts to influence what assets the federal reserve purchases. when the federal reserve buys long - term securities – such as the $ 1. 2 trillion in mortgage backed securities it purchased during the financial crisis – it favors some segments of the market over others. and when the federal reserve is a ready buyer of government debt, it becomes a convenient source of cash for fiscal programs. during a crisis this may be justified, but as