MNI INTERVIEW:Richmond Fed's Athreya-2: Supports Gradual Hikes

By Sara Haire

     WASHINGTON (MNI) - In line with viewing the near-term balance of risks as

tilted to the downside, Richmond Fed Executive VP and Director of Research

Kartik Athreya said in an exclusive interview with MNI that he is in support of

"not taking big steps all the time," instead urging the FOMC to continue to

watch how the economy develops to better inform monetary policy decisions.

     Athreya said if he were a policymaker, he would be "comfortable with a

couple more moves without thinking that that risks going above the neutral

rate," cementing his support of the Fed's plan for continued gradual interest

rate hikes.

     While the "stance of monetary policy remains accommodative," according to

the June statement, the Fed's projections for the fed funds rate by the end of

2019 now stands at 3.1%. This is above the 2.9% level expected to prevail in the

longer-run, suggesting they might be going past their projected neutral rate

shortly.

     Two economists at the Richmond Fed, Thomas Lubik and Christian Matthes,

created a measure that attempts to estimate where the real natural rate of

interest resides. As of March 31, the median real natural rate estimate was

1.02%, meaning the nominal natural rate would be closer to 3% when adjusted for

inflation.

     Athreya emphasized that you can't "understate the uncertainty" of where the

neutral rate is, as the estimates range "is reasonably from 1.25% to 4.75%."

     Policymakers should heed their own advice for sticking with gradual moves

while still tracking movements in the economy to gauge where the natural rate

is. Athreya reiterated the sentiment, saying "a couple of rate increases

wouldn't put you in any grave risk of being over r-star measures."

--YIELD CURVE CONCERNS

     As the economy continues to strengthen and the Fed continues to raise

interest rates, the yield curve flattening to almost inversion has not prompted

the Fed to slow down. While policymakers recognize that an inverted yield curve

has preceded all recessions, they point out there are differences in this

business cycle from previous ones.

     As the trade war continues to threaten the outlook, the treasury curve has

flattened further. The gap between the 2 and 10-year yields fell to a new

year-to-date low on Monday.

     Many economists and market experts expect the yield curve to flatten even

further, possibly inverting in the next few months or by years end. This was

prompted by the recent trade policy pronouncements combined with the Fed's

relatively hawkish policy statement.

     However, the flattening of the yield curve could be due to the historically

low term premium, which could be "operating to make things a little flatter, all

else equal," Athreya said.

     Athreya stressed that despite this difference in the low term premia, he is

"cautious about hanging your hat too much on the ideology of this time being

different." He continued on to to say that "this is just one more reason to take

it easy -- observe what is actually happening."

     Even so, FOMC policy makers appear to have not be deterred by the flatter

yield curve.

     Governor Lael Brainard, prior to the June FOMC meeting recognized that

while the yield curve is an important indicator that will continue to be

monitored, it remains only one of many, and may in fact be less indicative now

of a downturn than in previous times.

     Chair Powell, in his press conference following the Fed's decision to raise

interest rates again, explained that the yield curve is flattening "because

we're raising the federal funds rate," not indicating any intention of slowing

down because of this fact.

--MNI Washington Bureau; +1 212-800-8517; email: sara.haire@marketnews.com

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