Minneapolis Fed’s Kashkari: Pause Rate Hikes at 5.4%; Consider Cutting If Inflation Falls

By Steven K. Beckner

(MaceNews) – Minneapolis Federal Reserve Bank President Neel Kashkari laid out a roadmap for monetary policy Wednesday that calls for a pause in interest rate hikes, followed by rate cuts, but not until the federal funds rate reaches 5.4%.

Kashkari, who will be voting on the Fed’s policy-making Federal Open Market Committee this year,

admitted that he was one of the Fed officials who argued that soaring inflation was “transitory” in 2021 and favored holding the funds rate near zero, but made clear he now has a very different view about wage-price pressures and the need for the central bank to counter them.

After leaving the funds rate near zero until March last year, the FOMC raised it by 475 basis points, culminating in a 50 basis point hike on  Dec. 14 that took the funds rate to a target range of 4.25% to 4.50%.

FOMC participants revised up their projections for 2023 from 4.6% in the September Summary of Economic Projections to 5.1% in the December SEP. Individual projections ranged from as low as 4.9% to as high as 5.6%, and 17 of the 19 officials projected the funds rate will need to go above 5% to become “sufficiently restrictive” to reduce inflation to the Fed’s 2% target.

Writing in an essay published by the Minneapolis Fed, Kashkari indicated he had been at the high end of the range of officials’ projections, saying he sees no need to pause rate hikes until the funds rate reaches 5.4%.

He blamed “surging inflation,” which has lately moderated after going above 9% in June, on unique shocks that defy traditional models, but said “we still have a responsibility to bring inflation back down to our target.”

Regardless of the source, Kashkari said “the initial surge in inflation is leading to broader inflationary pressures that the Federal Reserve must control.” He noted that nominal wage growth has grown to 5% or more, yet is not keeping up with inflation.

“Monetary policy is the appropriate tool to bring the labor market back into balance” to curb wage-price pressures, he said.

Kashkari outlined a three-step strategy for restoring price stability:

First, he said, “while I believe it is too soon to definitively declare that inflation has peaked, we are seeing increasing evidence that it may have. In my view, however, it will be appropriate to continue to raise rates at least at the next few meetings until we are confident inflation has peaked.”

“Once we reach that point, then the second step of our inflation fighting process, as I see it, will be pausing to let the tightening we have already done work its way through the economy.”

“I have us pausing at 5.4%, but wherever that end point is, we won’t immediately know if it is high enough to bring inflation back down to 2% in a reasonable period of time,” he continued. “Once we see the full effects of the tightened policy, we can then assess whether we need to go higher or simply remain at that peak level for longer.”

“To be clear, in this phase any sign of slow progress that keeps inflation elevated for longer will warrant, in my view, taking the policy rate potentially much higher,” he added.

Kashkari’s third step, as he put it, “ is to consider cutting rates only once we are convinced inflation is well on its way back down to 2%,

He warned that easing monetary policy too soon could sentence the economy to prolonged inflaiton problems.

“Given the experience of the 1970s, the mistake the FOMC must avoid is to cut rates prematurely and then have inflation flare back up again,” he said. “That would be a costly error, so the move to cut rates should only be taken once we are convinced that we have truly defeated inflation.”

In Kashkari’s analysis, “inflation has soared, but it soared because of supply/demand dynamics—what I will call ‘surge pricing inflation.’”

He denied that the Fed’s new monetary framework, announced in August 2020, led to the current elevated inflation. “I do not agree with some who suggest our new framework is what caused us to miss this surge in inflation; most advanced-economy central banks around the world also missed forecasting high inflation using their existing policy frameworks.”

Share this post