MNI INTERVIEW: Fed Should Prep For Chance Of Fewer Cuts-Lacker
The prospect of stubborn inflation is real and Fed officials must not be complacent, says former Richmond Fed president.
Federal Reserve officials should remain clear-eyed about the risk that inflation will prove more persistent than expected, forcing them to hold off longer on the start of rate cuts, former Richmond Fed President Jeffrey Lacker told MNI.
“I’m open to the notion that two or three rate cuts end up being warranted this year, but the committee would do well to prepare markets for other possibilities, in particular that inflation stalls out, and just spelling out what it means – they don’t get rate cuts this year,” Lacker said in an interview.
The biggest mistake officials made in the 1970s was letting their guard down too soon, he noted, saying the Fed was at a “critical moment” once again.
“The moments that were most problematic in the 1970s were the times when the Fed eased prematurely, before inflation had returned to a low and stable rate, out of concern that maybe growth and employment would falter. I think they’re at risk doing that here if they go ahead with rate cuts before inflation is at 2%,” he said.
The notion that the Fed will fall behind the curve on cuts if they wait too long is overstated, Lacker said, arguing that it’s not obvious that monetary policy is particularly restrictive at the moment. (See MNI INTERVIEW: Fed Set For June Cut, Risks Later Move-Sheets)
OPEN YOUR EYES
Estimates of the real long-run neutral rate range from 1.12% at the New York Fed to 2.23% at the Richmond Fed, he noted.
“If you add a current inflation rate of 3%, you get 4-5.25% and relative to that range for the longer-run neutral rate, 5.3% isn't very restrictive. And for various reasons, the neutral rate might be higher in the short run," he said.
“The other class of evidence is just ‘open your eyes.’ Growth has surprised on the high side for the last three quarters, the labor market is still exceptionally tight despite a little pickup in unemployment, you've got very strong openings still relative to the number of unemployed, you've got jobless claims coming in exceptionally low, and spending growth just seems to be chugging along."
Inflation remains a concern because goods prices appear to be bottoming out while services costs, including wages, remain stubbornly high, as reflected in a still-elevated core CPI reading of 3.8% in February. Wage growth is also still not near levels consistent with 2% inflation, he said.
“It’s almost like bumpy is the new synonym for transitory – dismissing it as essentially a short-run phenomenon,” he said. Notably, “the committee shifted toward more participants seeing upside risks to inflation than broadly balanced.”
ULTRA-GRADUAL
Lacker said the Fed’s patience in cutting rates so far is due to concern that markets will read it as the start of a steady and predictable easing cycle, adding that policymakers should counter that narrative.
“It would be useful if they made clear that one strategy in their arsenal is to just nudge rates down and wait for a while. That’s what they did going up in 2015 and 2016. And in the 90s they would nudge rates down, wait a while,” he said.
He said that barring an economic downturn, the Fed is unlikely to cut much more than 200 basis points. “Absent a recession, I doubt they’re going to get below 3.5 or 4."
The Fed kept rates on hold this week for a fifth straight meeting, at a 23-year high of 5.25-5.5%.