business

By Deborah Lynn Blumberg
Of DOW JONES NEWSWIRES


SHERIDAN, Wyo. (Dow Jones)--Withdrawing the help that it has extended to the economy and financial markets will be tricky for the Federal Reserve, Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, said Wednesday, but it must be done as the economy begins to recover in order to stem inflation.

The Fed has doubled its balance sheet to help markets. It can't wait until inflation begins to become an issue before it acts, though, and needs to try to "pull the stimulus out at the right time," Hoenig said.

That will be a "very delicate matter," said Hoenig. If the Fed pulls its help too quickly, it could trip the U.S. economy back into a recession, he said. Failure to pull help away fast enough, though, risks causing inflation, he said.

When it does begin to pull back, the Fed will need to raise excess reserves and begin to dispose of the assets it purchased. The latter, though, does put downward pressure on prices and "people become annoyed," he said.

In that light, it is key to "withdraw carefully and systematically. It's a matter of judgment and timing, but it has to be done. It won't be easy."

Hoenig was responding to questions from the audience after delivering prepared remarks at a lunch meeting in Sheridan, Wyo.

In response to other questions, the central banker also said the financial system needs a clear set of disciplinary rules to keep it from falling into another crisis in the future.

"We really do need to diagnose this correctly," he said. "We did get away from some very fundamental standards."

However, a complete regulatory restructuring isn't the way to go, he said, pointing instead to developing a clear set of rules that are "a disciplinary force on the industry."

For example, he cited setting firm principles for examiners who audit the banks. A reasonable leveraged standard or reasonable loan ratios are examples of such principles, he said. Banks that exceed a reasonable figure that was set would have to correct the imbalance. Hoenig also said banks with securities off their balances sheet could perhaps be required to retain a portion of that.

He also said commercial real estate is a sharp issue, noting that some of the financing of commercial real estate was done at very low rates.

In commercial real estate, "there are serious adjustments that are taking place," he said, adding also that the adjustment period will last for a period of time.

Discussions are ongoing related to the government's Public Private Investment Program, which was designed to remove troubled assets from bank balance sheets, Hoenig said.

The U.S. will have to think about how to bring balance back to its economy, how to save more as a nation and how to build up productivity, the central banker noted.

"This will take time," he said, "but the only way to get it solved is to begin solving it."

source: The Wall Street Journal

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