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Fed Vice Chair Signals Intent to Continue Current Policy
Monday, November 18, 2013 5:50 AM

Janet Yellen, the current vice-chair of the U.S. Federal Reserve and President Obama’s nominee to replace Ben Bernanke as chairman in February, indicated she will pursue current monetary policy until she sees a robust recovery.

In her Senate confirmation hearings last week, Yellen signaled her intent to continue the Fed’s bond buying program to strengthen the economy and help drive down the nation’s unemployment rate. There have been concerns that the program has artificially inflated stock values and home prices to such an extent that it jeopardizes market stability.

The S&P 500 index is trading at a level that is 17 times reported earnings, compared with 14 times reported earnings last January. The S&P/Case-Shiller home price index has climbed 12.8 percent in August from a year ago, the steepest increase since February 2006.

In her testimony, Yellen notes “Stock prices have risen pretty robustly, but if you look at traditional measures you would not see stock prices in a territory that suggests bubble-like conditions.”

It has been the Fed’s stance under Bernanke that the first lines of defense against market instability are regulatory tools, including powers granted to the Fed under the Dodd-Frank Act, the implementation of which will fall to Yellen. This includes four actions already taken this year to deal with excessive risk in the market for high-risk, high-yield loans.

Under two hours of questioning, Yellen pointed to how the benefits of the bond-buying program still outweigh the costs and said the best thing the Fed could do to correct income inequality is to help the job market recover.

According to Brian Turner, direct and chief strategist with Catalyst Strategic Solutions, the Federal Reserve is purchasing $85 billion per month in U.S. Treasury bonds and mortgage-backed securities in an effort to keep long-term interest rates as low as possible in order to spark consumer spending and demand for financing. It also is trying to reduce the slope of the yield curve, particularly the spread between the 10-year Treasury bond and three- month Treasury bill, to create an incentive for financial institutions to extend more credit to consumers and businesses.

“Unfortunately, consumer spending behavior continues to waver in light of job insecurity and protracted weakness in the employment sector,” notes Turner. Although the industry’s loan growth has improved this year, most of that growth has been isolated to the industry’s larger credit unions, particularly those $500 million or more in assets.”

The pace of mortgage refinancing has slowed as mortgage rates have increased over the past year, sending its share of total mortgage applications as low as 62 percent. Last week, refinancing applications accounted for 66 percent of total applications. The Mortgage Banker Association projects total mortgage applications to drop 33 percent in 2014 with the refinancing share dropping below 40 percent.

“The shift in mortgage originations will put even greater pressure on the need to produce consumer loans next year,” continues Turner. “This would require members to have a more positive sentiment on spending and overcome their resistance to seek financing.”

Recent data from the Federal Reserve shows consumer credit has increased 5.0 percent this year, mostly from a 9.0 percent increase in non-revolving credit (which includes auto and student loans).

“The same data shows non-revolving credit at credit unions has increased 10.8 percent this year and the industry’s market share increasing from 9.6 percent to 10 percent,” adds Turner.