MNI INTERVIEW: FOMC In No Rush To Cut Rates- ExVC Kohn

Federal Reserve policymakers are in no hurry to begin reducing interest rates because they rightly fear recent disinflation could stall and see the first cut as the consequential start of a new easing cycle, former Fed Vice Chair Donald Kohn told MNI.

“They don’t seem to be in any rush at all,” Kohn said in an interview. “Some of the disinflation could be temporary, one-off. They could envision a situation where inflation pressures didn’t abate and might have even gotten worse.”

The economy’s surprising resilience also lessens the perceived need for an easing of monetary conditions, said Kohn, who spent some four decades at the Fed’s board of governors.

“The strength in demand and on the employment side also means there’s no urgency to cut.”

Minutes from the Fed’s January meeting released this week showed most FOMC members were worried about the risk of moving too quickly to lower rates, but only two were concerned about waiting too long to cut.

“They’ve emphasized this first move is so important – they’re worried that whenever they move the market will extrapolate,” Kohn said.

Officials were taken aback when, after penciling in three cuts for 2024 in their December Summary of Economic Projections, investors moved to price in as many as six. Policymakers have since talked down those expectations, with some success – especially after a hotter-than-expected CPI report for January showed the core figure climbing 3.9%.

“They don’t want to move and then reverse. They’ve made that very clear,” Kohn said. (See MNI INTERVIEW: US Inflation To Linger As Fed Loosens-Warsh)

WAIT AND SEE

Because the economy is still emerging from a period of high inflation, Fed officials need to make really sure it is truly headed to 2% before cutting, Kohn said.

“You want to make sure that it’s down because if it turned again you could really risk unanchoring inflation expectations. So on the risk management side I think they’d rather hold on a little too long than not long enough,” he said.

“I do think there’s this issue of the last mile. Is it really durably down to 2? That’s still an open question given that some of the disinflation could be transitory.”

Kohn expects the boost from shelter costs to overall inflation to diminish over time, but he’s uncertain about the magnitude of that decline.

“I think the housing inflation will come down but how far and how fast is an open question. There’s a perpetual shortage of housing in this country,” he said. (See MNI: US Shelter Inflation Cooldown Seen Limited In 2024)

As for wage growth, he said it is a lagging indicator but officials still need to make sure it is abating sufficiently to be consistent with stable prices.

“It’s important to see wage increases become smaller over time. As long as they’re moving in the right direction I would be comfortable easing policy before they get to, say, 3.5%,” Kohn said, adding the Employment Cost Index has been more promising on that front than measures of average hourly earnings.

QT

Kohn praised Fed indications that it will begin to debate the timing of an eventual slowdown in the pace of its asset runoffs at the March meeting, but added this doesn’t mean QT needs to end all that soon. (See MNI: Fed Could Soon Taper QT, But Halt Further Off-Ex-Staffers)

“There’s enough extra in the reserve accounts and in the RRP accounts that they see this runoff continuing for a while. They’re smart to give it a good discussion in March to see when a good time to slow it is,” he said.

“They don’t know where they’re going, kind of feeling their way. I don’t see what they have to lose by slowing down. If you go more slowly you might even find that you can go further.”