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Little Follow Through From CPI Beat


Softer Activity But No Relief On Pricing Front

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By Pedro Nicolaci da Costa
     WASHINGTON(MNI) - The Federal Reserve's ongoing review of the basic
parameters it uses to gauge monetary policy could force additional interest rate
cuts later this year, a former top Fed economist told MNI.
     Joseph Gagnon, a long-time board staffer who was associate director of the
Fed's Division of Monetary Affairs during the financial crisis, said in an
interview that if the central bank decides to move toward an inflation averaging
system from the current 2% target when its review concludes around mid-year,
that might call for additional stimulus.
     "If the Fed adopts a modest amount of inflation averaging later this year,
it may or may not call for some policy easing depending on the details of the
averaging," Gagnon said.
     "Under the Fed's current strategy, rates are fine and inflation likely to
remain near target. The biggest risk is that coronavirus causes a global
recession. I don't know how likely that risk is."
     Gagnon, who was involved in the design and implementation of the Fed's
first round of large-scale bond buys in late 2008, thinks the Fed will be
missing an opportunity with its framework review by not raising its inflation
target above 2%.
     He thinks that would help create more room for future easing, given the
restrictions of the zero lower bound on official interest rates, and given that
the fed funds rate is already in a 1.50% to 1.75% range.
     "I think the Fed should dramatically change its strategy and aim for higher
inflation, in which case they need to ease significantly," said Gagnon, now a
fellow at the Peterson Institute for International Economics.
     Such a move, supported by other prominent economists, would have the
additional benefit of making future Fed bond buys more effective, Gagnon's
research suggests.
     Most Wall Street analysts expect the Fed to resort to quantitative easing
or QE in the next downturn.
     The chances of a U.S. recession on the horizon are moderate but not
negligible, Gagnon said.
     "I see roughly a 20% chance of recession striking in the next 12 months.
Add in the possibility of a significant slowdown that is not an outright
recession, and I guess there is a one in three chance that they may ease policy,
but late this year or early next is more likely than early this year because of
the normal lags in collecting and interpreting the data," he said.
     --NOT QE
     The former board staffer was sanguine about the size of the Fed's $4.2
trillion balance sheet, and not concerned that it might limit future bond buys.
     The Fed has been re-expanding its balance sheet since September in an
effort to address disruptions in the repo market.
     "Balance sheet expansion is not QE and has no implications for future QE,"
said Gagnon. "QE requires the purchase of long-term bonds, which they are not
     The Fed cut interest rates three times in 2019 in a sharp policy reversal
from 2018, when it had raised them four times and promised to keep going. It has
vowed to keep them on hold for the totality of 2020, but markets have already
started to doubt that resolve, pricing in at least one rate cut this year.
--MNI London Bureau; +44 203 865 3829; email:
[TOPICS: MMUFE$,M$U$$$,MT$$$$,MX$$$$]

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