MNI POLICY: Fed Must Resist Temptation to Hike Early: Evans

Chicago Fed President Charles Evans said Monday policy makers must look past any short-term revival of growth or inflation and resist the temptation to raise interest rates, saying the economy is a long way from meeting targets.

Ambiguity in the Fed's goals is a good thing because it prevents being locked into a pledge to raise rates before the right conditions are established, he said in a speech to kick off the NABE conference where Chair Jerome Powell speaks on Tuesday.

Scenarios for a premature tightening include the prospect of the inflation rate going above 2% early next year as large price cuts related to the pandemic fall out of the price index, he said, and fatigue with having rates near zero for a long time, Evans said.

"It's crucial that we acknowledge the magnitude of the job up front to help lessen the temptation to back off the overshoot too early in the process," Evans said.

While the economy has been surprisingly resilient amid Covid-19, it still has "a long way to go" and GDP won't recover until late 2021 even assuming appropriate fiscal aid and the pandemic doesn't worsen, he said. Inflation won't reach 2% on a "persistent basis" until 2023 and will "moderately" overshoot in the few years after that, he said.

GETTING THERE FASTER

The Fed could reach average 2% core PCE inflation a year sooner, in mid-2025, if price gains were allowed to run up to 2.5% instead of 2.25%, Evans said.

Communicating when the Fed may raise rates is also complicated because the neutral rate of interest has been depressed by the pandemic and will likely rise as the economy returns to normal, he said.

"Now is not the time to employ a plan to tighten preemptively on the basis of a forecast," he said. "And our current forward guidance regarding liftoff rejects this tactic. The guidance is pretty straightforward: Inflation should be at 2% and confidently on track for overshooting before we lift off from the effective lower bound."

Even with the need to avoid tightening too soon, raising rates may be the right thing to do even before the goal of sustaining average inflation at 2% is fully met, he said. Borrowing costs would still remain very accommodative through that period in that situation.