MNI INTERVIEW: Fed Could Be Forced To Play Catch Up-Coronado

MNI (WASHINGTON) - The Federal Reserve needs to start cutting interest rates soon given falling inflation and a labor market that is increasingly balanced and so more susceptible to a sudden worsening, former Fed board economist Julia Coronado told MNI. 

“Based on the macroeconomic data alone, the progress made on inflation and risks to the outlook on employment, you could make a good case they should start in July,” she said, referring to the Fed’s upcoming July 30-31 meeting. 

“More than likely what they’ll do is just open the door and acknowledge they’re getting close and then actually initiate their actions in September,” she said in an interview with MNI’s FedSpeak Podcast. (See MNI INTERVIEW: Fed To Open Door To Sept Cut Next Week-English)

Coronado said the labor market still appears to be resilient on some fronts but there are signs of fraying that policymakers must keep in mind. 

“The risks are definitely tilted toward a weaker labor market, and when the unemployment rate starts rising, the historical record is that it tends to keep going and pick up steam. That certainly is a risk right now,” she said. 

PLAYING CATCH-UP

That could even mean the Fed needs to kickstart the rate cutting cycle with a more aggressive 50-basis point cut, said Coronado, although she added this would take a “real scare” like a significant additional spike in joblessness. (See MNI INTERVIEW: Fed Might Need Bigger Cuts If It Waits Too Long)

"There are some risks that they could be playing catch up in September, she said.

The concern for the former Fed economist is that the current 23-year high fed funds rate of 5.5% is well above even the highest estimates of neutral within the central bank, and as inflation falls policy becomes more restrictive. 

“If policy is restrictive and you stay here, the economy isn’t stabilizing, it’s going to keep slowing. So the risk starting from where we are is clearly to the downside and it will take an adjustment in rates to get to a more balanced position,” Coronado said.  

“The highest estimate of the neutral rate on the FOMC, of the long-run fed funds rate, is 3.75%. We’re at 5.5. If you now conclude we’re balanced and the risks are to the downside, then you need to get a lot closer to that a lot faster.” 

COOLING LABOR DEMAND

Coronado pushed back against the idea that the rise of the unemployment rate is not really reflective of weakness because it is mostly driven to a spike in the supply of workers linked to immigration flows.  

“If you look at the numbers, that’s just not true. The household survey where we get the unemployment rate does not show accelerated labor supply in the last three to six months – what it does show is a much shaper cooling in hiring and labor demand than we see in payrolls,” she said. 

“If you look at hiring and quit rates in jolts, the gradual upward drift in unemployment insurance claims, what earnings reports are telling us, what the Beige Book is telling us, there’s a lot of indication that demand for labor is cooling off, and it’s cooling off potentially pretty quickly."

BALANCED INFLATION VIEW  

The risks to the inflation outlook are balanced, said Coronado, president and founder of MacroPolicy Perspectives and a former member of the New York Fed’s Economic Advisory Panel. There’s even a chance that inflation will fall more quickly than Fed officials envision, she said.  

“Certain things could get stickier but some things could cool off even faster like new car prices look like they could drop a lot more, shelter disinflation seems to be just kicking in, that could pick up steam,” she said. 

“Consumers aren’t just taking every price increase. They are much more in control or at least more of a player in the negotiation of prices.”