MNI INTERVIEW: Fed Rate Cuts Will Start In June - Reinhart

A resilient U.S. economy with still-present inflationary risks will mean the Federal Reserve will ease later and more slowly than in past cycles, with rate cuts starting in June, former Fed Board division of monetary affairs chief Vincent Reinhart told MNI.

Reinhart said the Fed's December signal of 75 basis points of cuts this year "sounds right," and sees it coming in three 25-basis-point moves starting mid-year.

"I think the economy performs well, but as a consequence the Fed only eases on a planned basis to recap the stance of policy rather than the panicky response to economic weakness," Reinhart said.

"Inflation will only fall slowly and in that environment the Fed will be able to recalibrate the stance of policy, keeping policy firm but less firm in real terms by following inflation lower," he said in an interview. (See MNI INTERVIEW: Fed Might Not Cut At All In '24-Ex-Fed Economist)

"The problem I have with market pricing right now is they want the best of two worlds. They are pricing in significant Fed action and of the sort that the Fed typically delivers at times of economic distress, early in the year and by a lot," Reinhart said. "But other asset prices are pretty favorable: equity prices buoyant, risk spreads narrow, implied volatilities low. There's a view we're getting a Fed policy path associated with economic distress, even if the economy is expected to perform well. I don't think you get both."

FOMC GUIDANCE

Reinhart is not expecting the FOMC next week to signal a rate cut in March, saying "they don't have a platform to explain why they'd be easing." Goods prices are no longer a guaranteed source of disinflation and service prices will remain sticky, he said, adding that he expected 2024 headline PCE inflation to come in around 2.5%.

Instead, "I expect we're going to get the same sort of head snapping" as in December, "an FOMC statement that is little changed, not setting up an imminent ease, and then Chair Powell at his press conference providing a glossier interpretation."

"It's a really bad look to ease or promise to ease and see inflation turn around," said Reinhart, now Dreyfus & Mellon chief economist. "When the Fed starts cuts, they're jumping out of a plane. You want to make absolutely sure your parachute is going to open."

He dismissed concerns about inflation undershooting as a false precision. "The Fed is going to have to run around its goal for a while before people forget the previous inflation and that could include bouncing under 2%," he said.

MID-YEAR QT TAPER

It isn't too early for Fed officials to begin talking about slowing the pace of balance sheet reduction, he said. The discussion and internal process will happen over a couple of meetings, but officials have time because there are hundreds of billions at the overnight reverse repo facility. "I think they will be comfortable for longer."

"I expect them to talk about it in January, and make a decision in March to signal they'll start tapering sometime in the middle of the year." (See MNI: Fed Could Soon Taper QT But Halt Further Off- Ex-Staffers)

Reinhart, a former secretary and economist of the Federal Open Market Committee, expects the Fed to reduce the Treasury run-off cap from USD60 billion currently to USD30 billion, and no change to the MBS cap of USD35 billion, which is well above actual run-offs averaging around USD15 billion to USD20 billion per month in 2023.