June 9 (Bloomberg) — The Federal Reserve has backed off from seeking a new tool to forestall inflation, refraining from asking Congress for the power to issue its own debt, according to a person familiar with the matter.
Putting off the issue may avoid a political clash over whether the Fed should begin winding down its emergency lending programs while unemployment remains elevated. The central bank intends to rely instead on paying interest on banks’ reserve deposits to prevent a flood of cash into the economy.
After central bankers repeatedly said Fed bills would be a useful additional tool to mop up liquidity, Chairman Ben S. Bernanke omitted mention of the idea in congressional testimony last week. The person, who spoke on condition of anonymity, said the Fed hasn’t made a formal request to lawmakers.
“It’s important that we have all the tools in place” for the Fed to drain liquidity when it’s ready, House Financial Services Committee Chairman Barney Frank, a Massachusetts Democrat, said in an interview. Still, “it would be a mistake to start dealing with that before you know when, how, how much, et cetera.”
House Budget Committee Chairman John Spratt, a South Carolina Democrat, said in an interview after Bernanke testified to his panel June 3 that “if it was something that the Fed needed, he wasn’t pushing it with this committee.” Wisconsin Representative Paul Ryan, the panel’s ranking Republican, said “I do not like that idea at all.”
Christopher Dodd, the Connecticut Democrat who chairs the Senate Banking Committee, has indicated he’s wary of granting the Fed additional regulatory powers. “The instances in which the Fed has failed to execute its existing authority are numerous,” Dodd said at a March 19 hearing.
In testimony before the budget committee, Bernanke suggested the Fed hasn’t abandoned the idea of issuing its own debt. Beyond the Fed’s current set of tools, Bernanke said “there are still other possibilities that we’re looking at and that perhaps we can discuss with Congress at some point,” without mentioning the authority to issue debt.
“We suspect the omission from Bernanke’s litany was not a slip of the tongue,” Joseph Abate, a money-market strategist at Barclays Capital in New York, said in a research note June 4.
Abate said in an interview that lawmakers may be reluctant to allow the Fed to issue debt that’s not subject to the Treasury limit and competes with other government securities. In addition, were Fed officials to ask Congress for debt-issuing powers, they would be “opening themselves up to political interference,” he said.
Fed Assets Double
The Fed has replenished and added liquidity in credit markets over the past year through lending programs and purchases of securities, more than doubling assets on its balance sheet to $2.1 trillion.
Gaining authority to issue its own debt would allow the Fed to reduce reserves in the banking system and push up interest rates without having to shrink the balance sheet, San Francisco Fed President Janet Yellen said March 25.
In his congressional testimony last week, Bernanke instead highlighted the Fed’s authority to pay interest on banks’ reserve deposits as a tool that bears “very importantly” on the central bank’s ability to tighten credit.
“We can raise interest rates, and then we can tighten policy,” Bernanke said in response to a question from Representative Rick Larsen, a Washington Democrat.
Lacking the power to issue its own debt separates the Fed from central banks in Japan, China, the U.K. and other countries that do have such authority.
‘Nice to Have’
New York Fed President William Dudley said last week that under such a program, Fed debt would probably be restricted to maturities of less than 30 days. “We’d like Congress to consider it,” Dudley said, according to a transcript of an interview with the Economist. “It’s nice to have — as opposed to critical.”
Yet seeking the power may lead to other legislation. The Senate in April passed a nonbinding resolution asking the Fed to identify borrowers, a move Bernanke has said would be “counterproductive” and result in “severe adverse consequences” for the economy. Another resolution called for an “evaluation of the appropriate number and the associated costs” of the Fed banks.
Bernanke gave Congress a similar opening last year when he sought, and received, immediate authority from Congress to pay banks interest on the reserves they kept at the Fed. The 27-word clause was part of the October law creating the $700 billion Troubled Asset Relief Program.
With that legislation, Congress placed several new obligations on the central bank. The Fed was required to devise a policy to ease terms on mortgages it had acquired, and to file reports with the legislature on emergency-lending programs and bailouts.
At the House Budget hearing, a lawmaker brought up the idea of making Fed district-bank presidents subject to Senate confirmation. Currently the presidents are nominated by the banks’ boards of directors and approved by the U.S.-appointed Fed governors in Washington.
Representative Marcy Kaptur, an Ohio Democrat, asked Bernanke during the hearing whether he supported the idea. “No,” the chairman replied.
“The last thing the Fed wants is for its independence of monetary policy to be challenged,” said David M. Jones, president of DMJ Advisors LLC in Denver and a former Fed economist. “It’s very unlikely this debt thing would be pursued.”