Former Treasury Secretary Lawrence Summers warned against the exuberance taking hold in financial markets that the Federal Reserve has effectively won the war on inflation.
“People are a little bit in too much of a hurry to declare that we’ve done all the monetary policy that we need to do,” Summers said on Bloomberg Television’s Wall Street Week with David Westin. “The very dramatic response we’ve seen” this week with rallies in Treasuries and stocks “make me not as certain as many people that the job of containing inflation is over and that the war is done.”
The S&P 500 was set for its strongest weekly gain in more than a year and long-term Treasury yields were poised for a roughly 30 basis-point plunge on the week as Summers spoke. Markets climbed in recent days on hints from Fed Chair Jerome Powell that policymakers may be done raising interest rates and on signs of a slowing economy.
Summers, a Harvard University professor and paid contributor to Bloomberg TV, also renewed his criticism of U.S. debt issuance management in recent years—a topic newly in focus thanks to criticism of the Treasury from billionaire investor Stanley Druckenmiller.
“I don’t think our debts have been well managed over the last few years,” Summers said, pointing especially to the Fed’s quantitative easing program. Through QE, the Fed created bank reserves to purchase what were at the time low-yielding, longer dated Treasuries. Today, the Fed now pays much higher interest on those reserves than the income it receives from its bond portfolio.
For federal authorities, they effectively swapped longer-term debt for shorter-term obligations. Summers said if a household that shifted into a floating-rate mortgage in 2021 when rates were low “would be regretting its decisions today.”
A knock-on effect from the Fed’s policy is that it now no longer transfers about $100 billion a year in income to the Treasury—a shift that has worsened the fiscal deficit.
“We probably need to rethink a lot of our thinking on debt management,” Summers said.
Stocks and bonds added to their gains Friday in the wake of an October jobs report that showed weaker payroll gains than anticipated, along with a step down in wage increases and a tick up in the unemployment rate. Summers said the data weren’t conclusive, however.
“The labor market’s not quite red hot the way that it was a few months ago,” said Summers. “But whether it’s in a place that’s consistent with sustainable inflation at 2% I think that’s still very much in doubt.”
Summers also criticized Fed policymakers for specifying that the run-up in longer-term Treasury yields seen before this week effectively lessened the argument for them to raise rates again. Powell said last month that the rise in yields “at the margin” could lessen the need for more Fed action.
“I am not confident of a central element in the Fed’s thinking,” Summers said. “Which is, they can regard higher long term rates as some kind of contractionary impulse to which the right response is for their policy to be easy.”
If yields are higher thanks to government borrowing or stronger investment, “that is not the basis” for an easier stance, he said. If they’re higher because of the term premium—where investors demand extra to buy longer-term securities instead of just rolling over shorter-dated ones—it’s not clear how big the impact of that phenomenon is on investment decisions, Summers said.
The former Treasury chief also blasted House Republican policymakers for funding a package of aid to Israel by reducing the budget of the IRS. That “foolish” approach would simply raise the deficit as less revenue is collected, he said. The White House threatened to veto the bill, which is also opposed in the Senate.
This article was provided by Bloomberg News.