Mester outlines ‘compelling’ rate rise case

Posted on August 28, 2016

Loretta Mester, president of the Federal Reserve Bank of Cleveland, reacts during an interview at the Policies for the Post Crisis Era conference at the Banque De France in Paris, France, on Monday, March 23, 2015. Mester said the U.S. economy is strengthening and a June interest-rate increase remains a possibility. Photographer: Marlene Awaad/Bloomberg©Bloomberg

Loretta Mester, president of the Federal Reserve Bank of Cleveland

One of the Federal Reserve’s rate-setters has described the case for a further increase in short-term interest rates as “compelling”, arguing that the trends for employment and inflation are in the right direction.

Loretta Mester, the president of the Federal Reserve Bank of Cleveland, said the US economy had “proven itself to be resilient through a number of shocks” which was why a gradual upward path for the federal funds target range was appropriate.

    The Federal Open Market Committee member acknowledged there still might be negative risks looming overseas — for example the slower Chinese growth rate and the aftermath of the Brexit vote — but she argued that the central bank also needed to recognise “upside” risks.

    “If you inappropriately keep interest rates too low for too long then you put yourself in a position of perhaps having to raise interest rates more strongly in the future,” Ms Mester said, who votes on rates this year as part of the regular rotation between regional Fed presidents. “Those are the kind of risks we have to weigh . . . We have to be very deft about it.”

    Her words in an interview with the Financial Times followed a speech from Janet Yellen, the Fed chair, who signalled a rate increase was on the cards in the coming months.

    Ms Yellen’s intervention at the Kansas City Fed’s symposium at Jackson Hole, Wyoming, came after a number of other Fed colleagues including Stanley Fischer, the vice-chair of the Federal Reserve Board, and Bill Dudley, the president of the New York Fed, signalled they were open to a move. However, the minutes to the Fed’s July meeting suggested there are deep divisions among policymakers over how quickly to move.

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    Ms Mester was also attending the symposium at Jackson Lake Lodge. While second-quarter gross domestic product figures were soft at 1.1 per cent annualised growth, she argued that the consumer part of the economy was still quite strong, and employment was making progress.

    In terms of what monetary policy can do with respect to maximising employment, “we are about there”, she argued. “I think that basically we are at the point where we have met that goal, and I think we are very close to meeting the inflation goal in terms of the path being up to 2 per cent over the next couple of years.”

    Ms Mester declined to say what her decision would be at the Fed’s September meeting, saying she wanted to review all the economic data at that time and listen to her colleagues. But she added: “Making another gradual step — there is a compelling case for that.”

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    In a separate interview, fellow FOMC voter James Bullard of the St Louis Fed sounded ambivalent over whether a move should come as soon as September. Earlier this summer Mr Bullard switched to a dovish stance after his bank’s economists adopted a new approach to analysing the US.

    St Louis Fed analysts now no longer try to predict what the longer-term outlook is, preferring to set policy on the assumption that the economy will remain in its current state. Under his bank’s new regime Mr Bullard said in June that rates would remain unchanged in 2017 and 2018 following a single rise.

    “I am agnostic on when we actually move. Our framework does call for one more rate increase but exactly when we make that increase I don’t think is critical,” Mr Bullard said.

    “What is different about what we are saying is after we make the next move we really would be on hold for a while. So we have a much flatter policy rate forecast over the forecast horizon than others.”

    If you inappropriately keep interest rates too low for too long then you put yourself in a position of perhaps having to raise interest rates more strongly in the future

    – Loretta Mester, Federal Reserve Bank of Cleveland

    Mr Bullard argued that policymakers were undergoing a rethink about US monetary policy.

    Earlier in the recovery the FOMC had a fairly traditional notion of how policy normalisation was going to work, which involved lifting rates, shrinking its bloated balance sheet as the economy rebounded. “It is just not materialising the way it was envisioned,” he said.

    “That is causing people to say ‘well wait a minute, what were we thinking, and why were we thinking that, and how shall we modify our views.’”

    After the Fed lifted rates once last year, markets now envision only one more increase in 2016, he said. “Once a year is not really normalisation of anything . . . The whole normalisation idea is ripe for a rethink.”

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