- Cites Estimates That Bank Credit Tightening May Equal 25-75 BP of Rate Hikes
- FOMC Should Be ‘Cautious’ About Raising Rates ‘Too Agggressively’
By Steven K. Beckner
(MaceNews) – New Chicago Federal Reserve Bank President Austan Goolsbee cautioned Tuesday against raising interest rates “too aggressively,” because probable credit tightening in wake of recent bank failures is likely to make the Fed’s anti-inflation job “easier” and leave it with fewer rate hikes to have to implement..
Goolsbee, a voting member of the Fed’s policy making Federal Open Market Committee, cited estimates that the anticipated credit tightening could be the equivalent of as much as 75 basis points.
But the FOMC will need to carefully monitor and assess the impact of banking stresses on financial conditions and in turn on monetary policy, he emphasized to the Economic Club of Chicago in his first major policy address.
While advocating caution about further rate hikes, Goolsbee urged against “preemptively’ cutting rates in anticipation of economic weakness, saying the Fed still must wrestle with stubbornly high inflation in the service sector.
Goolsbee, who succeeded Charles Evans as Chicago Fed president on Jan. 9, joined a unanimous FOMC vote on March 22 to increase the federal funds rate 25 basis point to a target range of 4.75% to 5.0%.
A series of bank failures and emergency rescues deterred the FOMC from raising rates more aggressively at the March meeting, as had been widely expected just two weeks earlier. Before the collapse of SVB and related bank panics, Fed watchers were putting high odds on a 50 basis point rate hike, and Fed officials were publicly leaning toward raising their rate projections.
But in wake of financial system stresses, the FOMC said in its policy statement that “recent developments are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring, and inflation.” Chairman Jerome Powell said this anticipated credit tightening could “substitute” for rate hikes.
Although the FOMC went ahead with a 25 basis point rate hike, it significantly altered its forward guidance. Instead of anticipating “ongoing increases,” it said, “some additional policy firming may be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2% over time.” And instead of ratcheting up their rate projections, FOMC participants retained their December projection of a median 5.1% (5.0% to 5.25%) by the end of 2023.
Goolsbee, a former economic advisor to President Obama, focused many of his remarks on the challenge of making monetary policy in wake of a banking crisis.
Leading up to the March FOMC meeting, he recalled that the economic data had been strong and inflation high and the Fed was heading for “more aggressive“ rate hikes, but since the regional bank failures, he said the Fed has had to rethink its policy approach.
“At moments like this, of financial stress, the right monetary approach calls for prudence and patience – for assessing the potential impact of financial stress on the real economy,” he said in prepared remarks.
But Goolsbee went on to echo Powell in suggesting that the FOMC may now have to raise rates less to combat inflation. “If they develop, the Fed would need to account for these potential headwinds when setting monetary policy.”
“In some ways, it’s almost mechanical; we’ve been tightening financial conditions to bring inflation down, so if the response to recent banking problems leads to financial tightening, monetary policy has to do less,” he continued.
Goolsbee said, “It’s not clear by how much less, but private sector analysts have speculated that it might amount to raising the funds rate by something in the range of 25 to 75 basis points. We need to get a handle on the size of the financial headwinds, and that’s why we need to monitor a wide variety of financial indicators … given how uncertainty abounds about where these financial headwinds are going,”
I think we need to be cautious,” Goolsbee said. “We should gather further data and be careful about raising rates too aggressively until we see how much work the headwinds are doing for us in getting down inflation.”
But Goolsbee counseled against cutting rates in anticipation of economic damage from the bank failures: “There is a branch of the financial dominance school of thought that takes the argument even further. They argue that if there’s a chance of significant financial stress, we should preemptively cut rates to reduce the odds of it.”
“I think we should be careful with that logic, though, given our trouble getting inflation down in recent years – not to mention the dangers of setting a precedent for giving in any time the market throws a tantrum,” he continued. “The principal defense for avoiding or mitigating financial stress should be supervisory and regulatory tools.”
At the same time, Goolsbee said the Fed still faces a challenge on the inflation front: “With the service sector generally being less interest rate sensitive, it might take longer to reduce inflation here, though it will moderate as tighter financial conditions take the heat off of the economy in general.”
For now, Goolsbee said, “Our financial stability goals and our monetary policy goals do not conflict.”
“Often, moments of financial stress happen when the macro-economy is struggling,” he went on, but “at present, we do not face this dilemma. Actions that strengthen the banking sector’s financial position and reduce the likelihood of additional financial problems currently make the job of monetary policy easier – they tighten credit and help bring inflation down.”
Goolsbee did not elaborate on his policy comments in a Q&A session. He did make some comemnts about the labor market and wage pressures.
“It certainly feels like the job market is extremely tight…yet GDP (growth) is down…,” he said. “Wages are up, but they’re not up faster than prices…so business margins have expanded.”
“There are just weird puzzles,” he said. “It feels like the job market is cooling a bit. We’ve seen some layoffs and some slowing of the growth rate.”
—
Contact this reporter: stever@macenews.com
Content may appear first or exclusively on the Mace News premium service. For real-time delivery in entirety contact tony@macenews.com. Twitter headlines @macenewsmacro.