When to Raise Rates?

In an interview on Bloomberg TV’s “Market Makers” with Mike McKee, Philadelphia Fed President Charles Plosser said the Fed is getting closer to its objectives for full employment and price stability. He said, “The data keeps telling us we ought to be raising rates” and that “If we wait too long, we could find ourselves raising rates faster and higher than we want to.”

On his current outlook:

“I think that what the message really is that, look, the monetary policy is very accommodating. It has been for a long time. But at the same time, we are moving closer to our goals and objectives. Inflation is drifting back up toward our 2 percent objective; unemployment rate continues to move down. I think it’s important that we acknowledge that we are getting closer to our objectives. And for me, it’s important for me that we adjust monetary policy appropriately as we approach those objectives.”

On whether the Fed is close to its objectives, and differences in opinion between Fed officials:

“I think — for me, the question is that, regardless of where you define your objectives to be, we are closer now than we were. We are closer now than we were a year ago. And so, in that sense, what I believe is that we don’t – we should not be keeping interest rates at zero until we reach all our objectives.

That would — for me, that would be an uncomfortable position for the Fed to be in, because we’ve never been there before. You look back in history and ask yourself the question when the last time unemployment was at 6 percent and inflation was close to 2? And we had the funds rate at zero? Not very many episodes where you can find that.

So I think we have to be — acknowledge both to ourselves and the public that, as we get closer to our objectives, and you can debate about whether we are there yet or not, but as we get closer, monetary policy ought to be, in my mind, reacting to those movements.”

On what’s driving inflation now and why it’s moving up to a sustainable level:

“Well, I think most people believe — most economists now believe that an important element of inflation — determining inflation is inflationary expectations, keeping those anchored. So inflation expectations have been anchored, they’ve been pretty stable. That’s a good thing. And I think that is why many economists begin, and the Fed has said we anticipate inflation will gradually drift back towards our target. And that’s partly relying on the notion that expectations are keeping inflation anchored.”

On inflation signals and determining what is just noise:

“I mean, economic data is always noisy, OK? So I don’t – I don’t view it as noise. We’ve been anticipating – the FOMC has been anticipating that inflation would drift up. And we have been saying that in our statements. So this is evidence that, in fact, it’s doing what we thought it should do.

Now, the question is what will happen in the future? Will it drift back down again or will it stay up or overshoot, as some people think? Who knows? We don’t know the answer to that. But right now, it’s kind of doing what we think – we anticipated it to do. And we will have to see over time whether that remains stable.

We’ll get months of data that are noisy, some of them will be lower, some of them will be higher. But I think there’s good signs that both in the CPI and the PCE, are both moved up a little bit and that’s a good thing.”

On why unemployment is decreasing but wages are not rising:

“Well, I think wages actually are rising and they’re rising faster than they were two or three years ago. So they have drifted up as well, but they’re not rising rapidly. And usually wage growth is, in my view, historically is sort of a lagging indicator of inflation, not a leading indicator. So I think wages will continue to drift up bit by bit and that would be a good thing as well.”

On whether wage increases will push inflation higher:

“No, I think they respond to higher inflation. So in other words that — I believe that wages respond to higher rates of inflation rather than wages pushing inflation up.”

On why the Fed is waiting to raise rates:

“My view is that a lot of the guidelines that we look at, rules and things like that that give us guidelines about where the stance of policy ought to be for any combination of inflation and unemployment, where that policy rate ought be, many of these rules are indicating that we should begin gradually raising interest rates. And that’s informative to me in thinking about — and I think the message is is that, for us to deviate from what these guidelines and benchmark rules tell us, we’d have to have pretty good reason to want to deviate from them and explain why. So I think we’re closer than a lot of people might think.”

On whether the Fed will lose credibility if it waits too long:

“Well, I think — well, we’ll lose credibility. We may lose control of inflation. We may lose control of financial markets where we find ourselves later on having to raise rates faster and higher than we otherwise would like to, because we’re so far behind that the markets get ahead of us. That could be disruptive

And so if we wait too long, we could find ourselves raising rates faster and higher than we want to. And the same thing is true for the balance sheet. The balance sheet is supposed to providing accommodation. If we don’t begin to shrink the balance sheet, then if we’re to achieve any level of monetary policy accommodation, interest rates have to be higher and rise faster than they otherwise would with a small balance sheet.

So I think there is some subtle issues on the exit that could cause for a very bumpy ride coming out of this if we wait too long.”

On whether the speed change:

“Well, it depends — well, no, I don’t think so. But, again, we’re sitting at a point right now where we’re — historic amounts of accommodation. Unemployment six percent, inflation’s close to two. The question is are we already behind? And how far behind are we? Because that’s not a historically place that we’ve been before. So the question is are we already behind?

And yes, monetary policy works with a lag. Still does. What those lags are I think a lot of people can debate and it’s understandable. But if the financial markets get ahead of us and they decide rates need to go up, they’ll go up and we will have to follow them up. And if we want to keep inflation under control, we’ll have to raise rates faster probably than we otherwise might choose.”

On whether there is still slack in the number of areas of the labor market, the number of part time employed, the number of long term unemployed:

“I think one of the things is that a lot of the problems in measures of slack is we don’t understand them very well. Labor market is very puzzling to a lot of people right now; there are a lot of structural issues. Maybe there is still slack there.

I think the question is not so much whether there is slack or not at this point. I think the question is — there’s less than there was, and so monetary policy ought to respond to reductions in, if you will, the distance between where we are and what our goals are.

So if we’re going to have a reaction function, the committee has said in its statements, it says monetary policy and interest rates will be adjusted as we get closer to our goals. But we’re not doing that. In fact, we’re still trying to provide more accommodation because we’re still buying assets. So we’re still working in the opposite direction. Even though all our data is suggesting we’re getting better, we’re still trying to provide more accommodation. And that can’t go on forever.”

On the pace of raising rates:

“Well, I think we don’t know the answer to that. I think that’s part of the — we are in uncharted territory. We don’t — I think, typically, the Fed would like to move things gradually. We always like to do things slowly and signal. But if the markets get ahead of us and interest rates rise rapidly, we won’t have any choice but to raise them quickly.

And I think that’s part of the challenge that we’re facing. And the further we are away from where we need to be when the time comes, the more disruptive it possibly could be.”

On whether rates can be lower than they otherwise historically would have been because the economy has a lower trend growth rate:

“I think that’s a reasonable discussion to have; I’m not convinced that that’s the case but I would say that’s a reasonable discussion to have. But the number’s not zero. The new neutral isn’t zero, which is where we are now. So no matter where you want to put that number, whether you want to put it at 4 percent as some people do, or whether you want to put it at 3.5 percent, fine. We’re still a long way from 3.5 percent. And we’re a long way from 3 percent.”

On communicating with the public:

Well, I think you have to have conversations about preparing markets and the public that say, look, we, again, moving back towards our objectives. We can debate whether we’re there yet or not. But as we get closer, as the economy gets healthier, we need to begin to talk about the fact that monetary policy ought to be reacting to the data. And right now, we’re not reacting to the data. We’re just — we sort of — we’re on a path that says, you know, low for long and we have no plans to raise rates anytime soon. And yet, as the data keeps telling us, we ought to be raising rates.

On holding more press conferences:

A lot of people would like to see that. I’m OK with that. I think — I’m OK with having four press conferences a year but now I think we ought to (ph) only meet four times a year. I think that would be fine.

Video for viewing here.

Bloomberg TV

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