MNI INTERVIEW: Fed Will Hike Again If Inflation Lingers-Kamin

Federal Reserve officials could “turn on a dime” and raise interest rates further if future inflation reports, like the latest August CPI, point to a plateauing of price pressures, former Fed board economist Steven Kamin told MNI.

While policymakers have been hoping for a possible end to rate increases following a six-month period of steady disinflation, the stronger-than-expected CPI was a bump on the road to lower inflation that, if repeated, would prompt the FOMC to hike rates at least once more and perhaps even further, Kamin said.

“The interest by the FOMC in pausing, maybe stopping the rate hikes, and seeing how inflation plays out is based on the felicitous inflation developments of the last half year, with inflation falling a lot,” he told MNI’s FedSpeak Podcast.

“That will turn on a dime if the Fed officials become convinced that inflation is becoming more intransigent than they thought.”

Consumer prices jumped 0.6% in August as gas prices surged and shelter inflation stayed high, while core CPI rose 0.3%, a tenth faster than July and economists’ forecasts. Headline CPI rose 3.7% from a year ago vs. 3.2% in July and core was up 4.3%, still over twice the Fed’s target.

PAUSE ABOUT A PAUSE

“It kind of looked like a bit of a slackening of the pace of disinflation that we’ve been enjoying in recent months. It’s certainly too soon to say that the progress toward getting to the 2% target has stalled but it gives one a little pause,” Kamin said. (See MNI POLICY: Lively Debate At Fed Over Possible R-Star Rise)

But one month’s number is not enough to sway officials in either direction, he said. Fed policymakers have been divided, with a couple stating the Fed is likely done while a number of hawkish hold-outs have expressed a desire for perhaps one more rate increase this year.

Kamin said the Fed’s September Summary of Economic Projections will likely continue penciling in one more expected rate hike for 2023.

“To the extent that the CPI news had any effect, it might be to reinforce conviction that it’s worthwhile to leave that rate hike in the forecast."

‘WILDLY ASYMMETRIC’

The risks of overdoing monetary tightening still pale in comparison to those of causing an economic downturn, said Kamin.

“It’s important to back up and understand the fundamental tradeoff the Fed faces. If the Fed let’s inflation get out of control, then Powell will go down in history as the new Arthur Burns, and that is the number one thing that Powell does not want to happen,” he said.

“Conversely, if the Fed pushes the economy into a mild or even longer recession, I think that it will easily be able to argue that that was the price of getting inflation back to target and not having a repeat of the 1970s. So the Fed’s risk-return tradeoff is wildly asymmetric.”

If inflation appears more intractable, FOMC members would not hesitate to hike rates further, he said, potentially multiple times.

RETURN OF THE PHILLIPS CURVE?

The decline in inflation over the past year following a CPI peak of 9.1% in June of 2022 had been impressive, especially given the ongoing strength of the U.S. economy and labor market, said Kamin.

However, he warned the Fed’s vaunted soft landing is far from assured.

“That was always somewhat of a Goldilocks story and could always be supplanted by the more conventional story that you’d need slower economic growth, possibly a recession, certainly increased unemployment, in order to get inflation down that so-called last mile,” he said.

“In that context, any stalling of progress toward disinflation would need one to put more weight on the need for slower growth or a mild recession and higher unemployment and less weight on the Goldilocks story. The August CPI report, while a mixed bag, probably points a little bit more toward the conventional Phillips curve story.”