Fed Officials Wrestle with Appropriate Policy Path amid Data Fog
(MaceNews) – As they move closer to their penultimate monetary policy meeting of the year later this month, Federal Reserve policymakers continue to give mixed signals on the path of interest rates.
While there have been overt calls for additional rate cuts, and while some officials have indicated an openness to considering further rate cuts, others have been more noncommittal and a few almost hostile.
Despite this lack of unanimity and outright reluctance in some quarters, Wall street is still pricing in high odds of further rate cuts, despite a dearth of data.
When the Fed’s rate-setting Federal Open Market Committee lowered the federal funds rate by 25 basis points to a target range of 4.0% to 4.25% on Sept. 17, FOMC participants projected another 50 basis points of easing before the end of the year.
But since then, divisions among Fed officials have left some doubt whether there will be consensus to move again at the FOMC’s Oct. 28-29 meeting.
Certainly, there have been strong voices of support. Leading the charge has been Fed Governor Stephen Miran, a recent appointee of President Trump, who minimized inflation risks Tuesday and repeated his argument that a falling “neutral” funds rate necessitates slashing the nominal funds rate to ward off additional weakness in the labor market.
Minneapolis Fed President Neel Kashkari allowed for additional rate cuts Tuesday but warned that doing the kind of rate-cutting which President Trump has pushed for could cause “a burst of inflation.”
Advocates of further rate cutting have focused on “downside risks” to employment. But Atlanta Fed President Raphael Bostic, who is on record favoring only one 25 basis point rate cut this year, cautioned against reading too much weakness into recent labor market statistics.
Voting Kansas City Fed President Jeffrey Schmid was more outspoken in opposition to further easing Monday, describing monetary policy as only “slightly restrictive” and asserting that’s “the right place to be.”
The Fed has been operating somewhat in the dark in recent days. Because of the impasse over the federal budget that shut down the Bureau of Labor Statistics and other government agencies, Fed officials did not have a September employment report to react to, but that has not prevented them from drawing on other, non-governmental indicators and from commenting on labor market conditions.
In the absence of official data, Fed officials and their economic advisors are falling back on private reports and surveys. They’re all telling much the same story for September. Human resources management firm ADP reported a 32,000 drop in private payrolls. Outplacement company Challenger, Gray and Christmas reported that hiring hit its lowest level since 2009. The Institute for Supply Management found contraction of employment in both its manufacturing and non-manufacturing surveys.
Then too, the 12 Federal Reserve Banks gather their own findings on labor market conditions in their regular ‘beige book’ surveys of business contacts in their districts, which have also been trending toward weaker.
But whether the data are governmental or private, whether statistical or anecdotal, Fed officials are not sure what to make of them. And they disagree on how much weight to put on employment risks versus inflation risks.
Miran, who dissented Sept. 17 in favor of a 50 basis point rate cut and who has said the funds rate should be “in the mid-twos,” argued again for pushing the funds rate down.
His principal argument was that the “neutral” funds rate – the sum of the Fed’s 2% inflation target plus a hypothetical real interest rate (or r*) -- has fallen due to lower federal deficits and slower population growth.
The decline in the neutral rate “makes monetary policy more restrictive than it was,” he said, and that “poses some risk going forward, because if policy is tightened you would expect the economy (and in turn employment) to weaken … if we don’t adjust policy.”
What’s more, Miran told the Managed Funds Association, he is “more sanguine on the inflation outlook than others. My comfort comes from the disinflation I expect to occur from housing services.” He added that he’s seen “no material evidence” that tariffs are driving up consumer price inflation significantly.
He said his “best guess” is that r* is “about half a percent,” which would imply a nominal, neutral funds rate of 2.5%, and he said the decline in the neutral rate makes cutting the funds rate “the right move.”
A different perspective came from others Tuesday.
Bostic advised caution in interpreting labor market data. He told a Fisk University group that some of the apparent weakness in jobs data may reflect “structural” issues such as reduced immigration over which the Fed has no control. The Fed must “make judgments to make sure our policy much more oriented to the cyclical side than to structural things that our policy can’t change.”
Kashkari has been more open to rate cuts than some but he too sounded cautious Tuesday.
In contrast to Miran’s contention that the neutral rate is falling, Kashkari said “this massive demand for capital to build (AI) data centers is going to push up interest rates.”
And he said the Fed’s ability to boost the economy with short-term rate cuts is limited by upward pressure on long-term rates.
“Even if the Fed does one or more interest rate cuts, it may not translate into lower mortgage rates because of demand for capital to build data centers,” he told a meeting hosted by the Minneapolis Star Tribune.
Asked about Trump’s demands for sharp rate cuts, Kashkari warned, “if the Fed drastically lowered rates below the neutral rate, what I would expect to see is a burst of higher inflation. If we try to drive the economy faster than its potential to grow ... prices will go up faster.”
“If the FOMC were to cut rates dramatically more than justified” it might just produce “stagflation,” he said.
On Monday, Schmid took a fairly hard line “hawkish” position, strongly suggesting he cannot be counted to vote for another rate cut late this month.
Schmid voted in favor of the 25 basis point rate cut on Sept. 17, which he explained as “an
appropriate risk-management strategy as the Fed balanced the risks to inflation and employment.”
But going forward, he made clear he is not inclined to make monetary policy more accommodative.
“I view the current stance of policy as only slightly restrictive, which I think is the right place to be,” he said in remarks to the CFA Society in Kansas City. “With inflation still too high, monetary policy should lean against demand growth to allow the space for supply to grow and relieve price pressures in the economy.”
Schmid put much more weight on upside inflation risks than on downside risks to employment.
“While many indicators suggest that the labor market has cooled this year, I view this cooling as consistent with relieving price pressure and returning inflation to 2%,” he said.
Schmid acknowledged that “some recent data suggests a growing risk that the labor market may weaken more substantially or abruptly than I have been anticipating, but went on to say “there are a number of indicators that continue to signal a labor market
in balance.”
He noted that the 4.3% unemployment rate is “low relative to most of its history,” and he pointed to other indicators, including his Bank’s Labor Market Condition inces, which he said “suggest a labor market that has cooled but remains healthy.”
On the inflation side of the dual mandate, meanwhile, Schmid warned a “worrying sign” is that “price increases are ... becoming more widespread.”
He granted that “So far, most measures of inflation expectations have not moved up,” but he added, “I don’t take much comfort in that.”
Schmid said he is “anticipating a relatively muted effect of tariffs on inflation,” but said he “view(s) that as a sign that policy is appropriately calibrated rather than a sign that the policy rate should be aggressively lowered.”
In fact, contrary to other officials who have called monetary policy restrictive, he contended that policy is not very restrictive at all.
“The cooling labor market … suggests that the stance of monetary policy is restrictive,
but I would argue that it is only modestly so,” Schmid said, adding that “financial market conditions appear to be fairly easy.” as shown by soaring stock and other asset prices.
“None of this suggests that financial conditions are particularly tight or that the stance of policy is restrictive,” he continued. “Likewise, the economy is showing continued momentum.”
In balancing employment and price stability risks, Schmid concluded, “the Fed must maintain its credibility on inflation.”
Fed commentary was just as fractious last week.
New York Fed President John Williams seemed to lean decisively toward additional rate cuts by emphasizing downside risks to “maximum employment” and downplaying inflation risks. Significantly too, the FOMC vice chairman said monetary policy is still “restrictive” after the September rate cut, and he gave a relatively low assessment of the longer run “neutral” funds rate.
Williams estimated the real equilibrium rate at 75 basis points, which after adding in the 2% inflation target, implies a 2.75% neutral rate. That’s 25 basis points lower than the FOMC’s 3.0% median longer run funds rate. That would seem to imply the need for considerably more easing over time. Yet, Williams described monetary policy as only “modestly restrictive” currently.
More conditional comments came from Boston Fed President Susan Collins. She voted for the Sept. 17 rate cut and indicated she might vote for further rate cuts last week, but only if she can be convinced it is is needed to protect the labor market.
“I continue to see a modestly restrictive policy stance as appropriate, as monetary policymakers work to restore price stability while limiting the risks of further labor market weakening…,” she said. Pointing to “anemic job gains,” she added, “In this context, it may be appropriate to ease the policy rate a bit further this year – but the data will have to show that.”
Fed Board Vice Chairman Phillip Jefferson voiced support for the Sept. 17 rate cut, saying it “moved our policy rate closer to a more neutral stance while maintaining a balanced approach to promoting our dual-mandate objectives.”
But Jefferson gave no clue how he will vote on Oct. 29, saying only that he “will continue to evaluate the appropriate stance of monetary policy based on the incoming data, the evolving outlook, and the balance of risks.”
Then there were those who made clear they will require even more persuasion to ease further.
Cleveland Fed President Beth Hammack sent a contrary message last week. After saying the Fed is “being challenged on both sides of our mandate," she declared, “When I balance those two sides of our mandate, I think we really need to maintain a restrictive stance of policy so that we can get inflation back down to our goal."
Dallas Fed President Lorie Logan said she supported the Sept. 17 move “because it helped better balance the risk of slowing the labor market too much against the ongoing imperative to bring inflation back to the 2 percent target.” But she hastened to add she is “committed to finishing the job of sustainably restoring price stability...”
She went on to say that “there may be relatively little room to make additional rate cuts without inadvertently moving to an inappropriately accommodative stance.” She prefaced that assertion by saying “the combination of persistent inflation, resilient demand and modest labor market slack indicates to me that policy is likely only modestly restrictive,”
So, Logan, who will rejoin the voting ranks next year, said she “will be cautious about further rate cuts. It is critical for the FOMC to keep its commitment to deliver 2% inflation. Achieving this will require carefully calibrating the stance of policy.”
Far from fearing labor market softening, the former head of the New York Fed’s open market trading desk said “a modest further increase in labor market slack is likely necessary to finish restoring price stability.” And that in turn “requires maintaining at least a modestly restrictive policy stance.”
Logan warned that “lowering the policy target too much would risk moving to a neutral or even accommodative stance that would prevent further progress on price stability….. A cautious approach to policy will enable that learning and help balance both of the FOMC’s dual mandate goals and the risks to each of them.”