MNI POLICY: Kaplan Says Fed Should Retain Policy Flexibility

Dallas Fed President Rob Kaplan said Tuesday rates should be accommodative but not necessarily zero as the economy nears full employment and price stability.

"It will take at least until late 2022 or sometime in 2023" for the economy to be on track to have weathered the pandemic and be on track to achieve its maximum employment and price stability goals as articulated by the new policy framework, Kaplan wrote in an essay.

While Kaplan said he expects it will be appropriate to keep the federal funds rate in the current range until the economy is on track to achieve the FOMC's dual mandate objectives, "I believe that the Committee should retain greater policy rate flexibility beyond that point."

Kaplan and Minneapolis Fed President Neel Kashkari both dissented against the decision to issue new guidance on interest rates at the September FOMC meeting.

FISCAL HEADWIND

The Dallas Fed expects continued growth through the rest of this year, he said, with the unemployment rate ending the year at approximately 7.5% Inflation and core PCE inflation running at approximately 1.6% by year-end 2020, Kaplan said. Growth could hit roughly 3.5% in 2021 and the unemployment rate will decline to approximately 5.7% by year-end 2021. Inflation is expected to modestly accelerate, increasing to approximately 1.8% by year-end 2021.

But the economy faces risks from a fiscal stall in Washington, he said. "Lack of additional fiscal relief would create a key downside risk to my economic forecast for 2020 and 2021."

A "key risk we are watching carefully is the potential waning of unemployment benefits and other forms of fiscal relief, which could cause more typical recessionary dynamics to emerge," he said. "The emergence of these dynamics would certainly create headwinds for continued recovery."

While "monetary policy will play a critical role in the recovery," he said, we need additional fiscal measures that provide relief to the unemployed and those working part time who would prefer to work full time.

In addition, fiscal relief would be "highly beneficial" to state and local governments that are trying to recover from a fiscal hole created in the first and second quarters of this year.