MNI INTERVIEW: Powell Channels Volcker To Head Off '80s Redux

Federal Reserve officials are trying to act aggressively to combat inflation near 40-year highs in order to avoid having to push interest rates even higher later if inflation and expectations of inflation become more entrenched, former Fed board economist Jonathan Pingle told MNI.

Fed Chair Jerome Powell delivered hawkishly received remarks at Jackson Hole last week which invoked former Chair Paul Volcker, making clear that inflation is enemy No. 1 for the central bank and sending stock prices lower and bond yields higher, with two-year note rates climbed to their highest levels since 2007.

“Is Powell going to act like Volcker and drive the economy into a big recession to wring inflation out of the system? That’s not really Powell’s desire, what he’d like to do is act with resolve now in order to prevent having to get there,” said Pingle, who worked at the Washington-based Fed Board of Governors from 2003 to 2007 and is now an economist at UBS, in an interview. “One of the purposes of frontloading is to demonstrate that commitment by the central bank that keeps inflation expectations anchored."

That doesn’t mean the monetary tightening process would be smooth. Chair Powell stressed the prospect of significant economic pain from the Fed’s rate hikes, and Pingle says his models now foresee a 60% chance of recession. He also sees inflation coming down fairly rapidly in 2023, with PCE ending the year close to the Fed’s 2% target.

For that reason, he thinks the fed funds rate will actually peak below the Fed’s June forecast of 3.8%, at around 3.25% to 3.5%. (See MNI INTERVIEW: Fed’s Harker Wants Rates Above 3.4% By Year-End)

SEPTEMBER PIVOT

Pingle said the Fed has likely not yet made up his mind about whether to raise interest rates by 50 or 75 basis points next year, but he thinks a slowdown in the pace of hikes after unusually large 75bp moves in June and July is still possible.

“This committee is going to be reasonably divided. They left the door pretty open in their Jackson Hole comments. Harker and Bostic and Daly, I don’t think they have a very strong leaning but if you asked them today I think they’d probably say they prefer to do 50,” said Pingle.

"They’re going to have to make a shift at some point and it might just be easier to do that at an SEP meeting when they can provide better guidance, than say in November right before the congressional elections.”

RATE CUTS

Pingle said despite Powell’s warning that the Fed would not be cutting rates very quickly after they decide to pause hikes, a loosening of policy may still be in the cards if economic conditions worsen as he expects.

“I don’t think they really need a very long holding pattern. In their own projections they’re cutting rates even before turning inflation to 2%,” he said. “If the committee returns PCE inflation back to 2% or below, and we’ve got an economy tipping into recession and material job loss, I think that’s a scenario where the committee turns to taking out some of the tightness."

If that turns out to be the case, the Fed may also need to consider halting its balance sheet runoffs in order not to muddy the waters on the direction of policy. (See MNI: Recession Could Force Fed To End QT Early-Ex Officials)

“In most circumstances I think if they’re turning to cut the fund rate they would end QT,” he said.