5 Reasons the Fed Should Not Raise Interest Rates

 

I will admit a current bias against monetary tightening and the idea that the US economy is at full employment (though maybe such a state is only a long nine iron away). And although I am not a “high pressure economy” person, I would take any rate hikes very, very gradually. And if a voting member of the FOMC, I probably would have stayed the course at this week’s Fed meeting. Much like Minneapolis Fed President Neel Kashkari, who explains his dissent — with plenty of chart goodness — in a Medium blog post.

Among his key points: First, prices still seem pretty stable. (“Twelve-month core inflation is at 1.7 percent, and while it seems to be moving up somewhat, it is doing so slowly, if at all.”)

Second, measures of inflation expectations are mixed at worst. (“Surveys measures of long-term inflation expectations are flat or trending down … [while the markets’ inflation forecasts are still at the low end of their historical range.”)

Third, labor costs also don’t seem to be warning of building inflationary pressures getting ready to surge. (“The growth rate of hourly earnings has increased somewhat in the past year, but fell slightly since the last FOMC meeting, and it is still low relative to the precrisis period.”)

Fourth, the job market is stronger and might be able to get somewhat stronger still. (The U-6 measure is still almost 1 percentage point above its precrisis leve … [and one] of the big surprises over the past 18 months is how strong the job market has been; yet the unemployment rate has remained fairly flat near 5 percent.”)

Five, markets maybe correct, but the economy seems unlikely to then crash as a result. (“At the moment, although stock prices, housing prices and especially some commercial real estate prices appear somewhat elevated, they do not appear to pose an immediate financial stability risk.”)

Now there is a bit more to Kashkari’s reasoning, plus to his credit he also grapples with the counter case. All in all, I find it a plausible argument, though let me add that none of this means we also shouldn’t undertake the reforms needed to boost productivity and the economy’s growth potential.

Published in Economics
Like this post? Want to comment? Join Ricochet’s growing community of conservatives and be part of the conversation. Get your first month free.

Members have made 19 comments.

  1. Profile photo of I Walton Member

    This assumes there is a direct unambiguous monetary cause and effect on net growth, employment and other good things. That has yet to be shown. Interest rates are the cost of money and credit and higher rates allocate credit to higher yielding investments, loosen bank managers tight grip, reward savers and make it more problematical for the fed to monetize the federal governments debt. They tighten the budget and force budgeters to set priorities. These things seem more real to me than a theory that has yet to be demonstrated with empirical results, except in instances of monetary collapse which are probably more effect than cause.

    • #1
    • March 17, 2017 at 7:27 pm
    • Like6 likes
  2. Profile photo of The Reticulator Member

    James Pethokoukis: mong his key points: First, prices still seem pretty stable. (“Twelve-month core inflation is at 1.7 percent, and while it seems to be moving up somewhat, it is doing so slowly, if at all.”)

    Stablity would be an inflation rate of 0.0 percent.

    • #2
    • March 17, 2017 at 9:01 pm
    • Like4 likes
  3. Profile photo of Joseph Eagar Member

    The Fed’s been warning for years it would have to start raising rates before visible signs of inflation emerged, due to the “long and variable lags” between changes in monetary policy and their effect on the economy.

    • #3
    • March 17, 2017 at 11:55 pm
    • Like1 like
  4. Profile photo of Chris Campion Thatcher

    I honestly thought that with low interest rates and a huge increase in federal spending that we’d see some kind of inflationary spike happening as the economy recovered.

    The M2 metric is still trending downwards, though. It’s never stopped trending down, although it’s flattening.

    So with the country awash in capital, courtesy of ZIRP and Stimulus and Son of Stimulus, money is moving at a ridiculously slow pace.

    Which says something about interest rates, I think, as a useful tool. Money can be as cheap as you like, but that doesn’t mean my own outlook or optimism makes an investment in something right now a viable option. Low interest rates don’t increase median household income.

    • #4
    • March 18, 2017 at 5:14 am
    • LikeLike
  5. Profile photo of Steve C. Member

    We can have the luxury of worrying about inflation when economic growth clocks in at a Reaganesque 4.5%.

    • #5
    • March 18, 2017 at 6:50 am
    • Like2 likes
  6. Profile photo of Randy Webster Member

    Meanwhile, those living off the interest on their lifetime savings can more or less go to hell.

    • #6
    • March 18, 2017 at 7:52 am
    • Like3 likes
  7. Profile photo of The Reticulator Member

    Steve C. (View Comment):
    We can have the luxury of worrying about inflation when economic growth clocks in at a Reaganesque 4.5%.

    There would have been no Reaganesque growth of 4.5% if inflation hadn’t been dealt with first. At least that’s how I remember it. In a quick look I didn’t find a chart to prove or disprove the point.

    • #7
    • March 18, 2017 at 7:52 am
    • LikeLike
  8. Profile photo of The Reticulator Member

    Chris Campion (View Comment):
    I honestly thought that with low interest rates and a huge increase in federal spending that we’d see some kind of inflationary spike happening as the economy recovered.

    Perhaps we have had such a spike. But if you adjust inflation for increases in the prices of basic consumer goods, there isn’t much inflation left.

    • #8
    • March 18, 2017 at 7:56 am
    • LikeLike
  9. Profile photo of Fake John/Jane Galt Thatcher

    Now that the Democrats are out of power the Fed is free to raise rate all they wish since any collateral damage will hurt the GOP and Trump. I actually look for them to tank (cool) the economy to get the Democrats back in power.

    • #9
    • March 18, 2017 at 8:04 am
    • Like2 likes
  10. Profile photo of The Reticulator Member

    Fake John/Jane Galt (View Comment):
    Now that the Democrats are out of power the Fed is free to raise rate all they wish since any collateral damage will hurt the GOP and Trump. I actually look for them to tank (cool) the economy to get the Democrats back in power.

    I’ve assumed that’s how it works.

    • #10
    • March 18, 2017 at 8:18 am
    • Like2 likes
  11. Profile photo of Steve C. Member

    The Reticulator (View Comment):

    Steve C. (View Comment):
    We can have the luxury of worrying about inflation when economic growth clocks in at a Reaganesque 4.5%.

    There would have been no Reaganesque growth of 4.5% if inflation hadn’t been dealt with first. At least that’s how I remember it. In a quick look I didn’t find a chart to prove or disprove the point.

    I concur. But it’s 2017, not 1977. I think there is a case to be made that inflation as we (consumers) experience it vice how it is measured are two different phenomenon. Certainly money, as measured by velocity and price, point to low demand. No inflation. And I believe there is a deal of excess capacity. Physical assets and labor. AKA slack.

    its a conundrum. The old rules don’t seem to apply. I’m not even sure tax cuts will help as much as advertised.

    • #11
    • March 19, 2017 at 10:17 am
    • LikeLike
  12. Profile photo of Sweezle Member

    Artificially holding interest rates low has meant almost no interest accrued on saving accounts. I think that is awful for those of us who actually still save money.

    • #12
    • March 19, 2017 at 11:12 am
    • LikeLike
  13. Profile photo of Chris Campion Thatcher

    Sweezle (View Comment):
    Artificially holding interest rates low has meant almost no interest accrued on saving accounts. I think that is awful for those of us who actually still save money.

    I still think one of the targeted effects for the rate holddown is so people decide to save in their houses, rather than in cash.

    Meaning they’d rather pony up for a purchase and hold it in equity that should (should) appreciate over time, and thereby spark up the housing market. It would make sense to keep your dollars in assets that return something more than the weak rates paid by banks. The same banks that are still (I think) being paid interest on their dollars held in the Fed. So there’s less in it for them to pay higher rates on your capital.

    https://www.federalreserve.gov/monetarypolicy/reqresbalances.htm

    The Federal Reserve Banks pay interest on required reserve balances and on excess reserve balances. The Board of Governors has prescribed rules governing the payment of interest by Federal Reserve Banks in Regulation D (Reserve Requirements of Depository Institutions, 12 CFR Part 204).

    The Financial Services Regulatory Relief Act of 2006 authorized the Federal Reserve Banks to pay interest on balances held by or on behalf of depository institutions at Reserve Banks, subject to regulations of the Board of Governors, effective October 1, 2011. The effective date of this authority was advanced to October 1, 2008, by the Emergency Economic Stabilization Act of 2008.

    • #13
    • March 19, 2017 at 3:44 pm
    • LikeLike
  14. Profile photo of Mike H Thatcher

    Median CPI (The rate of inflation of the middle item in the economy) is currently 2.5% and has been for some time. That seems to square more with people’s experience of overall inflation better than something like core CPI or the PCE deflator.

    There’s a theory that a Fed Funds rate that is neutral to inflation is one that is around the trailing two years annualized Nominal GDP. Using the last two years of data of Real GDP and Median CPI, that comes to 4.25% – 4.5%. The Fed just increased to 0.75% – 1.0%.

    I don’t know about you, but the slope of those headline numbers you showed seems to be quite positive, meaning the increase in inflation is probably fairly rapid and about to shoot quite above the target rate.

    I don’t think the Fed is at any risk for raising rate more rapidly. The fact that inflation expectations are low is probably a signal to “buy inflation.” Buy things that win when inflation is high because they’re going to be very cheap right now.

    • #14
    • March 19, 2017 at 8:32 pm
    • Like1 like
  15. Profile photo of Joseph Eagar Member

    Sweezle (View Comment):
    Artificially holding interest rates low has meant almost no interest accrued on saving accounts. I think that is awful for those of us who actually still save money.

    It’s not like the market rate was that much higher. Perhaps the Fed could have engineered a 2% interest rate, but certainly no higher than that.

    • #15
    • March 19, 2017 at 11:47 pm
    • LikeLike
  16. Profile photo of Joseph Eagar Member

    Mike H (View Comment):
    I don’t know about you, but the slope of those headline numbers you showed seems to be quite positive, meaning the increase in inflation is probably fairly rapid and about to shoot quite above the target rate.

    I guess the real question is do we want this. In theory, many of society’s ill could be cured by a short period of stagflation; e.g. long-term unemployment, regional price level divergence, ethnic tensions, etc. Unfortunately, to my knowledge no society has ever succeeded in using inflation in that manner, and many have tried (the developed world in the 70s comes to mind).

    Regional price level divergence, especially, will probably require above-target inflation. The question is do we let this happen naturally, as blue states regulate themselves to death and drive the cost of living through the roof, or do we try and accelerate the process monetarily. In theory (such a wonderful fantasy world “in theory” can be), an artificially higher national inflation rate could produce political pressures for disinflationary (i.e. deregulatory) reforms in blue states, either through direct voter pressure or, if the voters demand more regulation, through federal bailout agreements after a state has gone bankrupt.

    • #16
    • March 20, 2017 at 12:03 am
    • LikeLike
  17. Profile photo of The Reticulator Member

    Joseph Eagar (View Comment):
    Regional price level divergence, especially, will probably require above-target inflation. The question is do we let this happen naturally, as blue states regulate themselves to death and drive the cost of living through the roof, or do we try and accelerate the process monetarily. In theory (such a wonderful fantasy world “in theory” can be), an artificially higher national inflation rate could produce political pressures for disinflationary (i.e. deregulatory) reforms in blue states, either through direct voter pressure or, if the voters demand more regulation, through federal bailout agreements after a state has gone bankrupt.

    Not to mention the fact that paying for the police-welfare state requires the government to steal money from the middle class through inflation. Keeping the ruling class in power requires inflation to make the rich richer and the poor poorer, which will cause people to revolt against our capitalist system and replace it with socialism.

    • #17
    • March 20, 2017 at 8:00 am
    • LikeLike
  18. Profile photo of Mike H Thatcher

    Joseph Eagar (View Comment):
    I guess the real question is do we want this. In theory, many of society’s ill could be cured by a short period of stagflation; e.g. long-term unemployment, regional price level divergence, ethnic tensions, etc

    These are things that could be cured by stagflation? Are you saying we want regional price divergence to go away and stagflation will help that happen?

    • #18
    • March 20, 2017 at 8:01 am
    • LikeLike
  19. Profile photo of Steve C. Member

    Joseph Eagar (View Comment):
    In theory (such a wonderful fantasy world “in theory” can be), an artificially higher national inflation rate could produce political pressures for disinflationary (i.e. deregulatory) reforms in blue states, either through direct voter pressure or, if the voters demand more regulation, through federal bailout agreements after a state has gone bankrupt.

    Increased costs in blue states will only lead to one end, demands for a federal bail out by blue state pols, unions and voters. See New York circa 1975.

    Imagine Sally Struthers touring the hovels of retired Chicago civil servants who have seen their pensions cut by 85%, and the Feds writing them checks….forever.

    • #19
    • March 20, 2017 at 8:12 am
    • LikeLike