– Expects Inflation to Drop; Still ‘Well Anchored at 2%’
– ‘No Extra Monetary Restraint Needed to Bring Inflation Down’
By Steven K. Beckner
(MaceNews) – Chicago Federal Reserve Bank President Charles Evans predicted Friday that inflation will fall from its current rapid pace and said he doesn’t think the Fed will need to be as aggressive in fighting inflation as in the Volcker-Greenspan years.
But he agreed that monetary policy is now “wrongfooted” and in need of “substantial adjustment.”
If inflation does not moderate as he hopes, Evans said a “stronger policy response” may be needed. He urged “careful monitoring.”
Evans, who is not a voting member of the Fed’s policymaking Federal Open Market Committee this year, extolled the virtues of letting the economy “run hot” when possible to maximize employment in a presentation to a Monetary Policy Forum sponsored by the University of Chicago Booth School of Business.
The FOMC left monetary policy unchanged on Jan. 26 but concluded that both its inflation and maximum employment goals had been achieved. So, the FOMC stated it “expects it will soon be appropriate to raise the target range for the federal funds rate,” seemingly implying it will lift off from its zero to 25 basis point target range at its March 15-16 meeting.
The FOMC also announced it will end its asset purchases (“quantitative easing”) in early March, and it released a preliminary set of “Principles for Reducing the Size of the Federal Reserve’s Balance Sheet” in preparation for trimming the Fed’s $8.9 trillion balance sheet.
Evans seemed supportive of at least a 25 basis point March rate hike, but was unclear on how many hikes he would support thereafter.
“Our present monetary policy setting is wrong-footed against the current, sharp increase in inflation. That is for sure,” he said. “But the sources of these large relative price increases may be different from more typical cyclical inflation episodes.”
Believing that “underlying inflation appears to still be well anchored at levels consistent with the Fed’s average 2 percent objective,” Evans said, “unlike in the Volcker and Greenspan eras—no extra monetary restraint is needed to bring trend inflation down.”
“So, I see our current policy situation as likely requiring less ultimate financial restrictiveness compared with past episodes and posing a smaller risk to the employment mandate than many times in the past,” he continued.
However, Evans said, “we need to monitor developments carefully to make sure the current spike in inflation does not bleed over into an unwelcome increase in the underlying trend.”
“If it does, more restrictive policy will be needed,” he went on. “I agree the current stance of monetary policy is wrongfooted and needs substantial adjustment.”
But persistently above target inflation is not what Evans expects. “Currently, the data infer a configuration of shocks that portends declining inflation pressures through this year.”
“At the moment, to me it still appears that inflation is due more to real-side factors, which relative price signals should eventually correct, than to persistent nominal monetary phenomena,” he elaborated. “But how this plays out will be key for my monetary policy decision-making over the year. “Careful monitoring” will continue to be the watchwords.”
Evans said that “if the data roll-in in a way that is better explained by more persistent shocks in technology, then these would also generate more persistent high inflation pressures and lend support for a stronger policy response.”
His fundamental, longer run view is that the U.S. economy and the rest of the world are stuck in a very low short-term equilibrium interest rate or “r*” environment. He said that “as long as the U.S. and global economies are in a low r* world, nominal interest rates will remain low and we will experience episodes close to or at the ELB (effective lower bound).
Evans is convinced the U.S. will return to that environment, in which he said the Fed must be prepared to keep interest rates very low to support labor markets.
In the past, Evans lamented that “labor market vibrancy has been sacrificed at times by more restrictive monetary policies in the name of curbing excess inflation or even an inflation scare, with higher inflation never showing up.”
But at least for now, he concurred with other Fed officials in thinking that “inflation pressures clearly have widened in the broader economy to a degree that requires a substantial repositioning of monetary policy.”
Evans’ remarks suggest that he would not favor an initial 50 basis point rate hike, as some have speculated the FOMC might approve on March 16, and that he would favor a relatively gradual and incremental pace of rate hikes.
The customarily dovish Chicago Fed president was often heard to call for higher inflation and inflation expectations during much of the last two years, but his views have shifted in wake of alarming inflation data. The consumer price index rose a worse than expected 7.5% compared to a year ago in January (6.0% core). The producer price index pointed to even worse inflation in the pipeline, rising 9.7% year-over-year ((6.9% core). On the wage front, average hourly earnings climbed 5.7% from a year ago last month. That was also more than expected and up from December’s 4.7% pace.