MNI: Fed Can Be Patient, Policy Not Very Restrictive-Hammack
MNI (WASHINGTON) - Federal Reserve officials can take their time before considering any additional action on interest rates because of upside inflation risks and healthy labor market conditions, Cleveland Fed President Beth Hammack said Thursday.
"I believe that monetary policy has the luxury of being patient as we assess the path forward, and this will likely mean holding the federal funds rate steady for some time. We have made good progress, but 2% inflation is not in sight just yet," she said in prepared remarks to the annual Columbia SIPA banking regulation conference.
"As long as the labor market remains healthy, I am looking for broad-based evidence that inflation is sustainably returning to 2% before adjusting policy further. While there are good reasons to expect that inflation will gradually come down to 2% over the medium term, this is far from a certainty, and upside risks to the inflation outlook abound."
Hammack said lags in monetary policy mean last year's rate cuts could take time to filter through to the economy, and a pick up in activity could put a further snag on disinflation.
"I will be carefully watching for changes to the outlook coming from potential government policies and, of course, stand ready to respond as appropriate," she added. (See: MNI: Fed In Holding Pattern As Inflation To Stay High-Ex-Staff)
HIGHER R-STAR AS FINANCIAL STABILITY RISK
She does not believe interest rate policy is "meaningfully restrictive" because the neutral rate of interest has likely risen since the pandemic, which itself creates a risk to financial stability. "Neutral real short rates may now be back above 2 percent, though I will concede that there is a great deal of uncertainty over all such estimates."
"If views on rates changed suddenly, the transition path would likely be bumpy and pose short-term financial stability risks. In this case, bond and loan holders would face either paper or realized losses on low-yielding long-term holdings, while highly leveraged borrowers with floating rate debt may see increased default rates," Hammack said.
Other key areas of focus for financial stability are the growth of private credit and hedge fund leverage, Hammack said, because problems in those sectors would likely spill over into banks.
"The banking system itself may not be immune to financial stability risks posed by private credit; banks are increasingly working with private-credit lenders, both directly providing leverage and serving as matchmakers with borrowers," she said. "Banks may suffer losses if private-credit firms are forced to sell assets under fire-sale conditions, and entire asset classes could see depressed prices, impair the net worth of banks that hold similar assets, and disrupt credit formation."
Hammack also noted the "need to weigh the costs and benefits of dealer constraints such as the supplementary leverage ratio, or SLR, and Tier 1 leverage."