Markets Wrong Not to Expect Mid-Year Rate Rise – Fed’s Bullard

James Bullard, President of the Federal Reserve Bank of St. Louis, spoke with Bloomberg Television and Bloomberg Radio yesterday about monetary policy, the U.S. economy and the oil market.

Bullard said “Zero interest rates is not the right interest rate for this economy. We are much closer to goals than we’ve been in a long time. Inflation is a little bit low, but it’s not low enough to rationalize the zero interest rate policy.”

He said: “The market has a more dovish view of what the Fed is going to do than the Fed itself… Markets should take it at face value.” He said it’s “reasonable” to expect an increase in June or July.

Interview highlights and transcript below.

Bullard on Bloomberg TV with Betty Liu and Mike McKee

Bullard on Bloomberg Radio with Tom Keene and Mike McKee

TRANSCRIPT: Bloomberg Television

BETTY LIU: Well for more perspective we’re joined by Jim Bullard. He’s the President of the Federal Reserve Bank of St. Louis, also Bloomberg Economics editor Mike McKee joining me as well. Jim, starting with international developments, right, as we’ve heard for the first time it seems that the Fed, the policymakers — that policymakers are in fact aware, and more aware of what is going on overseas in terms of factoring that into their own forecasts, right? So you see what’s right, what is happening in Russia. Russia surprised I think virtually every economist by cutting interest rates two percentage points. What do you make of that?

JAMES BULLARD: Well I don’t know about the Russian move in general, but certainly the Fed pays a lot of attention to global developments all the time. And we did make this small wording change in the statement, but I think that’s just reflective of the fact that we’re — we’re always talking about the global economy and how — how those factors are going to come back and affect the U.S. economy.

So if you look at past minutes, for instance, of meetings there will always be talk about various economic developments globally. So think this is just the change in the statement on that phrase is just a reflection of the reality of the discussion around the table.

MICHAEL MCKEE: You’ve got GDP lower than forecast, inflation low and unchanged market expectations for (INAUDIBLE) report inflation are falling, turmoil in Europe. Why is the Fed still on track to raise rates? A lot of people in the market are saying —

BULLARD: Boy that sounds terrible.

MCKEE: — you should be pushing it back. Exactly. That seems to be a widespread feeling out there that things are a little unsettled at the moment.

BULLARD: Now 2.6 on GDP that’s fine. And that’s not too far from what we had for tracking estimates of what it would be. We’ll see if provisions move it higher or not in the coming months, but I think there’s a lot of underlying momentum in the U.S. economy. And I think that shows up in the jobs numbers, which have been strong.

We’ve had one of the best years for job growth in 2014 since 1999, unemployment all the way down to 5.6 percent. I now think unemployment will go down below five percent by the third quarter of this year. So there’s a lot of good things going on in the U.S. economy. I think the GDP numbers just show one more in a string of positive developments for the U.S.

MCKEE: Can — can you raise rates with inflation, headline inflation falling or even stable at around one and a half percent?

BULLARD: I think as long as we feel confident that inflation will go back toward target, and right now that is my baseline projection that inflation will go back toward target, and so I think we’re certainly able and willing. Zero interest rates is not the right interest rate for this economy. We are much closer to goals than we”ve been in a long time. Inflation is a little bit low, but it’s not low enough to rationalize the zero interest rate policy. That inflation gap could rationalize somewhat lower interest rates, but it can’t get you all the way down to zero.

LIU: To zero.

BULLARD: Zero is 350 or 400 basis points from normal. You’re a long ways away from normal. That’s why I think there’s — there’s some pressure in the United States to come up off zero. Even if it came up off zero you’d be at 50 basis points or 75 basis points. That would still be extremely levels. It would still be accommodative and it would still mean inflation would had upward pressure and you’d be moving back toward your inflation target.

LIU: But these are really unusual times though, Jim. I mean is — is it possible that the dollar might be doing the work for the Fed right now?

BULLARD: What is the dollar doing do you think?

LIU: Well the dollar obvious — the — the rapid strengthening over the last couple months, right?


LIU: I mean that has — that also has an effect on capping any type of any inflation expectations, right?

BULLARD: Well I think the dollar’s move is over the last year is not surprising given the specter of ECB quantitative easing. Last year at this time very few expected the ECB to take this dramatic of a step. As we went through the year the probability kept rising and rising that the ECB would take action. And finally and just recently they actually came with a very large program, open-ended style program. I think that that has what has kept global bond yields down.

I think that’s an unmitigated good for the U.S. It means lower long-term interest rates in the U.S. on top of the momentum that we already have in the economy. We’ve got low oil prices coming in. That’s helping the U.S. economy. So I think there are a lot of bullish factors for the U.S. A natural consequence of that is the euro is going to be weaker, dollar is going to be stronger, but — but that’s reflective of good economic conditions in the U.S.

MCKEE: Markets are pricing in the Fed wait, some people say until 2016. What happens to the economy if you do, if you wait to see the whites of inflation’s eyes? Are we worse off? Are you afraid of a bubble?

BULLARD: I think one of the — okay, this is a hard decision I think this year. And I don’t envy our chair, Janet Yellen, in having to pull together all the disparate voices on the committee, but one of the risks I think would be you get later in this year, unemployment has come down below five percent, inflation is stabilized and has started to move back up.

If we haven’t moved by that point and inflation is really pretty close to two percent, unemployment is below five percent, people will say we’re behind the curve. We will have to move more aggressively at that point, and instead of — instead of 25 points, go 50 basis points. And — and that kind of a dynamic is not a good one for the central bank. So I if I was going to play it strategically I would just say I’d rather get off zero sooner and then have more flexibility to go slower and react to data. I think that would be maybe the more prudent way to go about this, but I don’t know where the committee is going to come down.

LIU: What possibly could change your outlook, could change your mind on this, Jim?

BULLARD: I’m, as you know, I’m very concerned about inflation expectations, especially TIPS space measures of inflation expectations. I do take them very seriously. I think right now the — the oil price decline has been so dramatic, and this is no ordinary oil shock, this is a 50 percent drop and it looks like it’s going to be very persistent, that huge drop in oil prices is probably contaminating the measures of inflation expectations coming from the TIPS market.

You would expect the ones, one-year, two-years to be affected, but this is affecting way out, five-year, —

LIU: Long term, yes.

BULLARD: — five year forward. That shouldn’t happen. So we’re going to have to let the oil market settle down and stabilize at some level. Once that happens we’ll go back. I will go back and look at longer-term inflation expectations and see what happens.

I would expect them to gradually come back up. We’ll see. If that doesn’t happen I’d start to get very concerned that our credibility was eroding and that the markets were starting to doubt our ability to hit two percent inflation, which they should not do —

LIU: So are you….

BULLARD: — because we will hit two percent.

LIU: So are you saying though that, without trying to simplify this too much, —


LIU: — but are you saying given the oil shock that we’ve seen and the decline of oil prices that that is clouding the outlook on inflation, and that it’s even — it’s even causing some uncertainties for you?

BULLARD: It’s clouding the outlook on inflation itself, which we can talk about, but it’s also clouding the outlook for these inflation expectations measures because the five-year, five-year forward should not be affected by the oil shock today. That’s five years from now. Whatever is happening to oil will have sorted itself out by that time.

But it is being affected by that. So I want that effect to get out there, go away. And once that effect goes away we’ll see if — if those expectations move back up.

MCKEE: You said that the path is what matters with interest rates right now. What is the terminal rate? What is a normal Fed funds rate or market rate for you now?

BULLARD: I think it might be slightly less than four percent, but I wouldn’t go a lot less than four percent.

MCKEE: Really?

BULLARD: And yes.

MCKEE: I mean you’ve got a lot of people saying there’s a new neutral in the country these days.

BULLARD: I think the idea that we know that all of the sudden the real rate, long-term real rate is lower for decades to come, I don’t think we really know that. So the best thing to do is to just go by historical data, maybe shade it down a little bit. And that’s — and then add the two percent inflation to that. You’re going to get something that’s close to four percent, maybe a little under four percent.

MCKEE: Well given your forecast for unemployment, how fast do you need to go up?

BULLARD: That’s a great question. And that will depend a lot on the data on inflation and inflation expectations. So we’ll have to play that I think by ear as we go along.

MCKEE: Well how confident are you in your forecast given all the crosscurrents out there?

BULLARD: Very confident.

LIU: You know….

BULLARD: I think forecasting is always a hazardous thing. And I think one of the things you always have to keep in mind is no matter who you are you put out a forecast you know you’re going to be wrong because that’s the way the macro economy works. And you have to learn from, okay, which direction were we wrong and how should we shade our forecast next time to try to accommodate that? And that’s the best you can do because it’s a very — it’s a wild bucking bronco to try to — to try to forecast the U.S. economy.

LIU: Right. You hope to be less wrong —

BULLARD: Less wrong, yes.

LIU: — when you put out these forecasts, right?

BULLARD: Yes, yes.

LIU: All right, Jim. Thank you so much for joining us.

BULLARD: All right. Thanks a lot.

LIU: We really appreciate it, Jim Bullard of the St. Louis Federal Reserve Bank, president of course. Also thanks to Mike McKee, our economics editor.

TRANSCRIPT: Bloomberg Radio

TOM KEENE: We’ll continue this conversation with President Bullard of the St. Louis Fed, Michael McKee and myself. Really interesting there what I thought he said about the view out five years and then the view out five years from there.

KEENE: He’s out of St. Cloud at Indiana University. He named is dog Garch. Jim Bullard with us, the St. Louis Fed president.

I know Mike wants to get back to the serious monetary economics of the moment. The authorities at the Bank of St. Louis, it’s nestled right on the Mississippi. You go north, you take I-70. I butcher all the St. Louis names. You go by Pine Lawn, and Cool Valley, and then there’s Ferguson, Missouri.

What have you and the smart group at the St. Louis Fed learned about inequality, learned about poverty, and learned about urban division with what you and St. Louis has had to put up with in the last year?

JAMES BULLARD: Well, it was a tragic development in our city and I think we have been able to

learn from it. At the bank itself, we looked at this very carefully and we asked how many employees of the ones we have live in Ferguson or near Ferguson. We’ve got about 100.

But then we looked and thought about it more. We talked to lots of different people. And, you know, it affects other people as well because they have their cousin that lives up there. They have their friend that lives up there. And so –

KEENE: Let me just –

BULLARD: — it affected so many people.

So we went ahead and we tried to — here’s what I tried to do. Can we get better at our diversity and inclusion program –

KEENE: Precisely.

BULLARD: – by using this — this situation to talk about race relations. So we did that, and we got a pretty good response from our employees on that. I was very happy that we could take something that was so tragic and try to make —

try to get better based on that.

KEENE: Okay, enough on that. Mike, we’ve got other matters to speak of.

MICHAEL MCKEE: Well, I want to get back a little back to the monetary policy issues we were talking about. I couldn’t really go into too much depth on television.

But let me ask you this, Jim, you said zero is not an appropriate rate for this economy. What do you mean by that?

BULLARD: I think if you look at any type of rule of them, Taylor Rule-type calculation about the U.S. economy right now, it will tell you that the rate should be off zero.

Now, you can do some more extreme incarnations and maybe still get zero, but it’s pretty hard because — and it’s getting harder every day because unemployment is not very far from the natural rate as put down by the Committee. And the inflation, even though it’s low and everyone is talking about inflation, including me, it’s not that far from our target.

So those gaps are not that big. You multiply that out and your Taylor Rule — you get something that is not zero. And so I think in that sense the guides that we had for the past are not fitting the current situation. And every day

that the economy continues to expand it gets more pronounced.

MCKEE: Well, what are you — what are you worried about? Are you a Phillips curve person?

Are you thinking that we’re going to see a big increase in inflation because the unemployment rate goes below NARU?

BULLARD: I’m not a big Phillips curve person. But I — you know, I’m willing to respect some of the correlation that’s in the data, and that is what the data is going to tell you, that you’re going to put upward pressure –

KEENE: Jim, if you’re the moderate guy, what is your probability if a jump condition? I mean everything is smooth curves. We’re an institution that is in control.

Do you worry about, as Mike alluded to with the Phillips curve, do you worry about jump conditions, stochastic movements that really upset the American apple cart? Or is it an institution in control?

BULLARD: No, I do worry that we could get into a situation where we wait so long that — and then the economy continues to surprise us in a positive way, and then we do have to move more aggressively than we’d like.

KEENE: To Ellen Zentner’s point at Morgan Stanley, will you wait if you don’t see wage inflation?

BULLARD: For me, wage inflation is not — not the way to go. I think it’s a lagging indicator, not a leading indicator.

So wages have come up as productivity improves and as labor markets tighten up, but I’m not expecting a bit burst in employee compensation. Those are slow moving processes. They tend to be smoothed out. Wages are not that highly correlated with the business cycle. They have a low correlation. So I’m not really looking to wages the way maybe some other members would be.

MCKEE: Well, you’ve said that July, September, June could be appropriate times for the Fed to raise rates. What do you need to see? Inflation actually moving up, stabilization in oil prices? I mean you don’t want to raise rates and then have to go the other way.

BULLARD: Well, on that question, if we had the turn around and we got some back shocks in the economy, then that’s the way it’s going to be. I mean I don’t see that as a reason to not get started if you think it’s the right policy.

Of course, you could get bad shocks, and you could have to turn around. And then you’d just have to be — you have to react to that.

So, yes, I think here’s the main thing. If you just went by the real economy, you’d be off zero right now. So that’s just leaves inflation and inflation expectations.

So if inflation and inflation expectations turn around, which they are likely to do once oil stabilizes here and starts to turn up, you’re going to be in a situation where it really is time to get off of zero bound.

MCKEE: We’ve got about a minute left. A lot of companies complaining about the dollar affecting their earnings. Are you worried that if you do start raising rates it exacerbates the dollar’s strength, hurts earnings, and hurts growth in the United States?

BULLARD: Of course we look at exchange rates. That’s one of the inputs to our global forecast. But I think the strong dollar is really just a consequence of a strong U.S. economy against the specter of weaker Europe and the easing Europe.

KEENE: Jim Bullard, our Craig Torres demanded that I ask this question. St. Louis Rams lost 12:6. St. Louis Rams lost to the Giants 37:27. St. Louis Rams lost to the Seahawks 20:6. St. Louis Rams aren’t in the Super Bowl. Who is going to win?

BULLARD: Excuse me, I think they beat the Seattle Seahawks.

KEENE: Did they? They slipped, okay.


KEENE: Who is going to win here?

BULLARD: So here’s what I think is going to happen. The Seahawks are going to win, but really it will be partly the Rams because the Rams did beat the Seahawks.

KEENE: Very good, okay. I like that. Jim Bullard, thank you so much.

MCKEE: He’s a policy maker.

KEENE: He straddled that quite nicely. We’ll continue on Bloomberg Surveillance.

Video for viewing here.

Bloomberg Television

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