MNI INTERVIEW: Fed Shifting To High-For-Long Message - English

The Federal Reserve is likely to shift to a high for long interest rate message this week as the stronger economy leads the central bank to want a slightly tighter path for policy, William English, a former director of the Fed's division of monetary affairs, told MNI.

"A somewhat higher path to the funds rate is probably what's going to come out of the SEP. The economy has persisted a bit more strongly than they thought," he said in an interview. "They're still leaning in the direction of higher rates than lower rates anytime soon."

The labor market has been pretty solid, he said, and inflation has come in along the lines the Fed expected, if not slightly better. "With a stronger real economy, that will lead them to write down a path for policy that is a little higher for a little longer," he said. "That is the signal that they will be sending."

When they meet again this week, Fed policymakers are expected to leave their key interest rate unchanged when their meeting ends Wednesday in a range of 5.25% to 5.5%, but project one more rate hike later this year while potentially reducing the number of rate cuts next year. (See: MNI: Fed Dot Plot To Show 1 More Hike, GDP Boost- Ex-Officials)

The Fed has been clear it still sees the need for a period of below-trend growth as well as some softening in labor market conditions to get inflation sustainably back down to 2%, said English, now at Yale University. "They've been projecting something pretty close to a very mild recession for some time but I think they still have pretty high odds that it could tip into a mild recession."

"They're trying to get a significant slowing and some slack in the labor market, but avoid a really sharp contraction."

R-STAR

There is also a chance FOMC members could revise up their view of r-star, he said, pushing up the median longer-run interest rate estimates slightly. But English downplayed the importance of any such shift, suggesting Chair Jerome Powell and others would remain data dependent around policy decisions.

The median estimate, which assumes 2% inflation, has been stuck near 2.5% since June 2019, although a growing minority of Fed officials think it could be higher. (See MNI POLICY: Lively Debate At Fed Over Possible R-Star Rise)

There are also a number of risks on the horizon -- the United Auto Workers strike against all three major automakers, a potential U.S. government shutdown, and the restart of student loan repayments -- but so far they are unlikely to represent big macroeconomic events, English said.

If Congress does not agree on a funding deal, a government shutdown starting in October would deprive the Fed of key data sources. English said it could impact the Fed's November meeting, forcing officials to rely on alternative sources of data.

"It could create a bit more uncertainty at a time when there is already plenty of uncertainty. That's not helpful," said English, a former secretary to the FOMC.