MNI INTERVIEW:Minneapolis Fed's Raffo Upbeat On Prices, Growth

U.S. inflation pressures are showing encouraging signs of softening and the country may avoid a deep recession and a more lasting era of stubbornly high price rises, Minneapolis Fed Research Director Andrea Raffo told MNI.

“The most recent readings on inflation not just in the United States but in several other economies are somewhat encouraging, in the sense that we do see a moderation,” he said in an FedSpeak podcast interview Wednesday.

Some commodity prices are returning to where they were before the Ukraine war, snags in global supply chains are easing and spending on goods is returning to normal after surging early in the pandemic, Raffo said.

“This is also a consequence of the strong actions taken by the FOMC and central banks around the world in raising rates, tightening financial conditions, and as a consequence reducing demand for some of these goods that tend to be also more interest sensitive,” said Raffo, who has also worked at the Fed's Board of Governors.

The Fed hiked rates from near zero last year to the highest since 2007 and investors see another quarter-point hike to 4.5%-4.75% after its Feb. 1 meeting. Consumer price inflation peaked at 9.1% in June and slowed to 6.5% in December. Fed officials project their preferred core PCE inflation measure at 3.5% this year and the economy basically stalling with growth of 0.5%.

WEAK LABOR SUPPLY

“Inflation remains uncomfortably high but the most recent months have shown some indication of moderation,” Raffo said. “I don’t want to share too much optimism but I think we are all hoping for a significant decline in inflation pressures over the course of 2023, and finally a return to more normal business conditions.”

Raffo joined the Minneapolis Fed last year, where President Neel Kashkari has moved to become one of the FOMC's most ardent supporters of hiking rates and holding at the peak until it's clear inflation is being crushed.

Weak labor supply remains a major concern for the U.S. economy, Raffo said, especially for services inflation. Labor force participation has stalled over the last year and rate increases mostly act on the demand side of the economy, he suggested.

“The key source of uncertainty is that unfortunately the legacy of the pandemic seems to be that the pool of workers in the United States has shrunk,” Raffo said. "We hope that the reduction in aggregate demand will be accompanied by a reduction in labor demand, and thus, fewer wage pressures, which would be a contributor to price pressures, especially in the service sector, which tends to be more sticky.”

The inversion of the Treasury yield curve has historically signaled a potential recession, Raffo said, but there's also a case to avoid that kind of downturn. The job market is very tight and reduced demand could cancel vacancies instead of forcing a surge of layoffs, he said.

TRADE CHUGGLING ALONG

“Especially in light of the most recent data on inflation, I think that the likelihood of a soft landing has somewhat increased, so we could experience a reduction in activity and below-trend growth this year, in line with the SEP projections, without necessarily going through a full-blown recession,” he said.

“The most recent developments have probably shifted the risks a little bit," he said. "They were clearly to the upside in terms of inflation and output, now they are probably starting to become a little more balanced.” (See: MNI: Fed Rates Likely Headed Above 5% Despite Cooling CPI)

Asked about the prospect of a new era of high global inflation triggered by aging populations or trade protectionism, Raffo again pointed to resilience. “I don’t see the damages coming from the actions taken over the past few years as having a long-lasting effect on global trade,” he said.

“As a matter of fact, as part of the shift of consumer demand away from services and toward goods, we’ve experienced one of the largest increases in trade during the Covid era," Raffo said. "It’s a reminder that actually trade remains a key engine of global growth."