MNI INTERVIEW: Fed Likely To Wait For June To Cut-Carpenter

Federal Reserve officials will probably wait until midyear before lowering interest rates despite market hopes for cuts as early as March, as inflation data stay choppy in coming months before resuming a downward trend, former Fed board economist Seth Carpenter told MNI.

In addition, market discussion about a possible end to quantitative tightening is premature because officials have just begun discussing the possibility of a taper, he said, adding that balance sheet runoff could continue until as late as early 2025.

“Our baseline view is the first cut comes in June and we’re looking for 100 basis points this year,” said Carpenter, now chief global economist at Morgan Stanley in the latest episode of MNI’s FedSpeak Podcast.

A cut at the May meeting would be plausible, Carpenter said, but “from my perspective of where the data will go over the next couple of months, March really seems too soon.”

That means anyone hoping for hints of a possible March cut from the FOMC or Fed Chair Jerome Powell’s press conference next week could be disappointed, he said. “There would be little upside for the FOMC or for Chair Powell.”

On the balance sheet side, Carpenter cautioned that market speculation about an imminent cessation of asset runoff is an overreaction to recent chatter about a tapering of bond purchases, an issue first raised in December meeting minutes and then discussed publicly by a number of policymakers.

“The minutes said they’d talked about the need, at some point, to talk about the need, at some point, to slow QT. So in terms of the minute signaling an end to QT I just don’t think that’s at all consistent with the facts,” said Carpenter, who was deputy director of the Fed’s Monetary Affairs Division and is also formerly held senior roles at the U.S. Treasury. (See MNI: Fed Could Soon Taper QT But Halt Further Off-Ex Staffers)

SOFT LANDING

Carpenter believes the economy is heading for a soft landing and expects inflation, after some possible bumps on the road, to continue its downward glide toward the Fed’s 2% target as the year progresses.

“I would say on a six-month or 12-month forward basis we’re pretty comfortable that inflation is just trending down and will get to levels that the FOMC is comfortable with and I think it’s a really good chance that we end up stabilizing close to their target and not 3% or higher,” he said, adding he expects inflation to end the year at around 2.25%.

“One of the reasons why we are comfortable saying it’s not going to be until June for the first rate cut is we think the higher frequency readings might actually drift up a little bit over the next two or three months.”

LESS DEEP, LESS RAPID CUTS

That should lead the Fed to take a slow-moving, cautious approach to reducing interest rates from 23-year highs of 5.5%, he said, because central bankers will not be reacting to some recessionary impulse but rather aiming for a more neutral policy as inflation subsides.

“This will probably be a less deep and less rapid rate-cutting cycle than we’re used to,” he said. “If they get a soft landing, i.e. if they avoid a recession, they’re not going to need to stimulate the economy, they’re going to want to get to something that’s roughly neutral.”

If a recession does come, it would likely be the result of the Fed staying overly restrictive for too long, he said.

“To get out of that recession it’s not necessary to stimulate the economy, what’s necessary is for the Fed to get rid of the restrictive stance they put in,” Carpenter said. “So instead of needing to cut 500 basis points as they’ve done in other recessions to stimulate the economy, at least in the first instance they just need to go back to their best guest of neutral, so, 250, 300 basis points of cuts.”