Fed not ruling out negative rates under very adverse scenario

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The Federal Reserve has two meetings scheduled for this summer, first on June 14-15 (with accompanying press conference by Chairwoman Janet Yellen), followed by July 26-27.

Several of Yellens lieutenants, including Boston Fed President Eric Rosengren and Cleveland Fed chief Loretta Mester, have been making hawkish noises. And Fridays retail-sales report, which easily beat expectations with a 1.3% increase for April, is the latest catalyst that the Fed could cite for raising interest rates during the summer.

Congressmans query answered: But despite these calls to raise rates, its important to remember that the Feds big boss, Yellen, remains a super dove when it comes to monetary policy. Her penchant for extreme monetary accommodation was borne out in a letter made public last week.

U.S. Rep. Brad Sherman, D-California, published Yellens response to a question he submitted about what the Fed might do if another serious economic downturn occurred. His question was a followup to Yellens February appearance before a House committee.

Yellen responded that she wont rule out imposing negative interest rates here in the U.S. Negative rates, which are currently in place in Japan and Europe, have been hailed as one of the most gold-bullish policies enacted in recent years.

Tool for additional accommodation: Under negative rates, a central bank charges other banks fees for storing their cash. Those lower-level banks in turn pass those costs on to their customers. The result is that instead of getting an interest payment for keeping cash at a bank, those depositors instead pay for that privilege. The end result is that they have no incentive to keep their money at the bank. Gold, which has no yield under normal conditions, thus has a positive carry under negative rates. In contrast, cash in a bank becomes a money-losing proposition.

Negative interest rates are a tool employed by countries in Europe and elsewhere, Yellen wrote to Sherman. By some accounts, these policies appear to have provided additional policy accommodation. As I have noted previously, we certainly are trying to learn as much as we can from the experience of other countries. That said, while I would not completely rule out the use of negative interest rates in some future very adverse scenario, policymakers would need to consider a wide range of issues before employing this tool in the United States, including the potential for unintended consequences.

Commenting on Yellens response, Sherman said he interpreted her answer as implicit statement that they have legal authority to impose negative rates in the U.S.

Carlyle founder sees recession: Although some recent data, such as retail sales, suggest that the U.S. recovery is on stable footing, some heavyweight economic players think that the U.S. is overdue for a recession.

For example, private-equity billionaire David Rubenstein, who cofounded the Carlyle Group, noted, Weve been growing at relatively modest rates, and we are due for more of an economic slowdown than weve probably had for the last couple of years. Our last recession ended in June of 2009. Typically you have seven years between recessions. It could go eight years, maybe eight and a half, but it doesnt usually go 10or 11 years.Probably in the first term of the next president we will probably have something close to a recession or something that might be close to very low growth.

A recent Bloomberg story on the issue also found that former Treasury chief Larry Summers, JPMorgan Chase chief economist Michael Feroli, and Conference Board economist Gad Levanon all agree that a recession could be in the cards.

Next president cant stop recession: And former Reagan-era budget chief David Stockman told CNBC that theres no way the next president can stop a recession. Thats been baked into the cake. The idea that this economy is somehow going to get stronger in the second half or that the next president can forestall a recession thats already baked into the cake I think is wrong.

With interest rates already close to zero after only one Fed rate hike in a decades, the central bank still does not have much room left to play with if it needs to cut rates to fend off a more overt slowdown. And if a real crisis erupts, Yellens words cited above already show that negative rates remain in her toolbox. Therefore, gold should be a key defensive element in investors own toolboxes.