The Federal Reserve left interest rates at 1% too long earlier this decade, one of the policymakers behind that decision said Friday.

[William Poole]
Poole

“With the benefit of hindsight — and the importance of the word ‘hindsight’ should be emphasized — it is not hard to argue that the [Fed] was too slow to raise the federal funds target after taking the target down to 1% in 2003,” Federal Reserve Bank of St. Louis President William Poole said Friday.

He added, “Also with hindsight, the [Fed] was too slow to start raising the fed funds target in 1999 after dropping it by 75 basis points to deal with the turmoil created by Long-Term Capital Management.” A basis point is a hundredth of a percentage point.

Many economists say the Fed erred either by lowering the target to 1%, or by taking too long to raise it over subsequent years. But Mr. Poole’s comments stand out in that he was a member of the Fed’s policy panel, the Federal Open Market Committee, when the decision was made.

If such concerns are shared by other FOMC members, then it could weigh in favor of raising rates relatively soon after the current credit market turmoil passes. “In five years or so, we will see whether the FOMC withdrew cuts in the fed funds rate target on an appropriate schedule,” Mr. Poole said.

Mr. Poole was a nonvoting member in 2003 when the target was lowered to 1% from 1.25% (it had been 6.5% in early 2001). He was a voting member in 2004 when it was left at 1% until June, when the Fed began to raise it in a series of quarter-percentage point moves, eventually reaching 5.25% in 2006. He voted with the committee, then chaired by Alan Greenspan, at each meeting in 2004. He was a non-voting member in 1999.

Mr. Poole retires soon and won’t be attending any more FOMC meetings. His last vote was in January when he dissented against the emergency 0.75 percentage point rate cut on Jan. 22, arguing the committee could have waited nine days to move at its regularly scheduled meeting.

Mr. Poole, in his speech in New York, to the Monetary Policy Forum, a joint Wall Street-academic conference, didn’t explain why he thought the Fed should have raised the rate sooner. Others have argued the low rates helped fuel a bubble in housing whose reversal led to the current crisis in credit markets. That view has taken some of the shine off Mr. Greenspan’s 18-year record as chairman. Mr. Greenspan has argued that the low rate policy was necessary to eliminate the risk of deflation, that is falling prices, and the housing bubble resulted from global forces, not Fed policy.

Mr. Poole made the remark in a speech discussing the possibilities that interest rate cuts designed to cushion the economy from financial turmoil can cause investors to take on excessive risk, a phenomenon called “moral hazard.”

Mr. Poole said the Fed’s 2.25 points of rate cuts since August have produced little moral hazard. “The Fed’s actions in recent months have not prevented many financial firms from having to write down the value of billions of dollars worth of assets.”

“The problem in these [1999 and 2001] episodes, however, was not related to moral hazard but to policy judgments of the usual sort of trying to strike the right balance between inflation and unemployment concerns,” Mr. Poole said. –Greg Ip