MNI: Fed's Logan: Rates Need To Continue Rising Gradually

U.S. interest rates need to continue rising gradually until policymakers are confident the U.S. labor market is cooling and aggregate demand is coming into better balance with supply, Federal Reserve Bank of Dallas President Lorie Logan said Tuesday.

Inflation data should show sustained improvement and "we need to see the economy evolving more or less as forecasts predict," she said. But with hiring in January coming more than twice as high as analysts had expected, "it is hard to have confidence in any outlook."

"I anticipate we will need to continue gradually raising the fed funds rate until we see convincing evidence that inflation is on track to return to our 2% target in a sustainable and timely way," Logan said in remarks prepared for Prairie View A&M University, adding, "We shouldn't lock in on a peak interest rate or a precise path of rates."

BIAS TO TIGHTEN

Tightening too little is the "most important risk" to the U.S. economy, Logan said. "When central banks aren’t sufficiently proactive in addressing high inflation, the road back to price stability is longer, the labor market is weaker, and the scars on the economy can last long after inflation is finally reduced."

The Fed needs to be attentive to keeping financial conditions sufficiently restrictive as well, she said.

Even when the Fed deems it appropriate to pause rate hikes, "we’ll need to remain flexible and tighten further if changes in the economic outlook or financial conditions call for it," she said.

"We must remain prepared to continue rate increases for a longer period than previously anticipated, if such a path is necessary to respond to changes in the economic outlook or to offset any undesired easing in conditions."

(See: MNI: Fed’s Peak Rate Looking Perkier As Jobs Boom-Ex-Officials)

ECONOMY OVERHEATED

Though hiring has slowed to around 350,000 a month on average over the past six months and wage growth has moderated to around 4.5% to 5%, "I’d need to see a lot more data, though, to be convinced the labor market is no longer overheated," Logan said.

Headline PCE inflation slowed to an annualized rate of 2.1% in the last three months of 2022, while core PCE inflation was about 3% annualized. Both energy and core goods prices have been falling but won't sustain the decreases forever, Logan said. Inflation for core services excluding housing, which make up about half of consumption, has been in a range of 4% to 5% for the past two years "with little sign of improvement."

If core services inflation excluding housing remained in its current range, while other categories returned to their pre-pandemic pace, inflation would settle much closer to 3% than to the 2% goal, the Dallas Fed chief noted. Meanwhile, China's rapid transition out of zero-Covid could drive up commodity prices by more than currently expected,.

"Broad-based and persistent services inflation is not the result of special circumstances like supply chain disruptions that will eventually go away. Rather, I see it as a symptom of an overheated economy, particularly a tight labor market, which will have to be brought into better balance for the overall inflation rate to return sustainably to 2%."