Fed's Kaplan says 'excess risk-taking' in market can harm financial system during recovery

• Federal Reserve Bank of Dallas President Robert Kaplan raised concerns on Monday that the central bank's more detailed forward guidance will encourage risk-taking in markets.
• The Federal Open Market Committee indicated last week it won't lift rates from their near-zero range until maximum employment and average inflation of 2% are achieved.
• The stricter guidance "gives you the signal that you're going to need to take more risk," Kaplan said in an interview with Bloomberg TV, adding that "excess risk-taking" can form fragilities in the financial sector.
• The Dallas Fed chief reiterated his call for more flexible guidance as well. It might not be "appropriate" to signal for a lengthy low-rate environment right now, and future policy should be left to future FOMC meetings, he said.
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The Federal Reserve's more detailed forward guidance could fuel risk-taking and threaten the financial system, Robert Kaplan, president of the Federal Reserve Bank of Dallas, said Monday.

The central bank chief expressed concern that heightened volatility and risky investor behavior could get in the way of the US economic recovery. Kaplan was one of two Federal Open Market Committee Members to vote last week against the Fed's more dovish policy stance. The central bank elected to hold rates near zero and signaled rate hikes won't take place until maximum employment is achieved and inflation hits an average 2%.

The new goal suggests historically low yields will last even longer than previously expected. Setting stricter guidance "gives you the signal that you're going to need to take more risk" to maintain steady returns, Kaplan said in an interview on Bloomberg TV.

"My concern is about building up excess risk-taking which can create fragilities and other excesses in the system that are hard to see in real-time and easier to see in hindsight. They could create issues for us to meet our goals," he said. "That was the reason I felt that the costs were not worth the benefits."

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Neel Kashkari, president of the Federal Reserve Bank of Minneapolis, also dissented at the September FOMC meeting and called for near-zero rates until core inflation hits 2% "on a sustained basis."

In a Wednesday statement following the FOMC meeting, the Fed said Kaplan's dissent hinged on a need for looser rate targets. The Fed president said he would rather have the central bank maintain its current rate range until the US economy weathers the coronavirus pandemic, and retain greater rate flexibility beyond that point.

Kaplan added on Monday that specifically guiding for near-zero rates gives the Fed fewer options moving forward compared to guidance of "accommodative or highly accommodative" policy.

"I'm not sure it's appropriate to decide right now that at that point we should leave rates at zero," he said. "I would rather leave those judgments to future committees because I think the world is going to look very different post-pandemic than it does now."

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