MNI INTERVIEW:Fed Not Restrictive, Might Need More Hikes-Levin

U.S. inflation threatens to settle significantly above the Federal Reserve’s 2% target, making it premature for policymakers to even consider interest rate cuts and suggesting they might even need to consider additional rate increases, former Fed board economist Andrew Levin told MNI.

Levin said monetary policy is not restrictive despite aggressive interest rate hikes because consumers' expectations of higher inflation have also become more entrenched.

“I don’t think policy is restrictive, period. We have a pretty healthy economy, the unemployment rate is low, nominal wage growth is strong, nominal GDP has held up and housing actually seems like it’s recovering,” Levin said in an interview.

“There’s a material risk that inflation is going to end up plateauing above the Fed’s target and the Fed is going to have to take more action,” he added. (See MNI INTERVIEW: Fed Can't Let Guard Down On Inflation-Weinberg)

Leaving rates higher for longer would probably not do the trick if inflation resurfaces, he said. Additional rate hikes might be needed, which would pose a communications challenge now that policymakers have explicitly stated they believe rates have likely peaked.

NOT RESTRICTIVE

Levin cited a measure of indirect consumer inflation expectations from Morning Consult and the Cleveland Fed showing consumers expect prices to climb around 5.3% in the coming year.

“If people are thinking about inflation being 5.3% then a federal funds rate of 5.5% funds is not a tight monetary policy, it's a neutral policy,” said Levin, a board economist for two decades until 2012, including two years as a special adviser on monetary policy strategy and communications, and now a professor at Dartmouth College.

Core services ex-housing inflation, or supercore, suggests underlying price pressures might actually be picking up, he said. The six-month annualized rate for February supercore CPI jumped 0.3% to 5.9%.

“Supercore is now accelerating. The latest three-month change was 6%. The idea that the Fed would even be considering interest rate cuts” is misguided, said Levin.

NO CUTS SCENARIO

FOMC members would do better to prepare markets for the possibility of no cuts this year than keep holding out hope for as many as three cuts, as were priced into the March Summary of Economic Projections. (See MNI POLICY: Fed's Rate Cut Timeline Shaken By Inflation Bumps)

The Fed’s use of the PCE price index as its primary target also downplays real costs households face.

“The Fed focuses so much on PCE price inflation, which has a bunch of components that don't really matter to consumers. For example PCE includes Medicare and Medicaid reimbursement, which isn’t even an out of pocket expense for consumers so consumers have no idea what Medicare and Medicaid are paying to hospitals,” he said.

“It also does a lot of imputing for financial services costs. It may be good for measuring the national income accounts but not for identifying the inflation people actually experience. For that purpose, CPI is much better.”

CPI rose 3.2% in the year to February while core CPI increased 3.8%. The March figures are due April 10.