Do not take market-based views at face value: San Francisco Fed

April 13
6:43 PM 2015

Federal Reserve policymakers should not read too much into financial market prices to glean the views of investors on interest rates or inflation because prices are hard to decipher, according to research released Monday by the San Francisco Fed.

"Fluctuations in risk and liquidity premiums and in other market forces complicate how market-based expectations are interpreted and used by policymakers - including central bankers," wrote Michael Bauer and Glenn Rudebusch, top researchers at the regional bank. "(Policy) cannot be formulated exclusively using information in market-based expectations."

As U.S. central bankers contemplate raising interest rates for the first time since 2006, some policymakers have cited falling measures of inflation in the market as a reason to be cautious about tightening policy.

Indeed, with some market measures suggesting traders see inflation five to 10 years from now at well below the Fed's 2 percent target, "a strict market-based approach to making policy would argue that the Fed should take immediate action toward more accommodative policy," they wrote.

They added those measures should not be taken at face value because they probably reflect expectations for European Central Bank easing rather than anything about the U.S.economy directly.

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