The Fed** must keep a close eye on upcoming data releases while avoiding excessive volatility in market expectations.
Former New York Fed President Dudley recently wrote that the Fed remains challenging in defeating inflation without destroying the economy. The following is the original text:
Financial markets have been closely watching the Fed's next move lately: How soon will the Fed start cutting interest rates? How low will interest rates fall this year?
It's really hard to answer, but I can offer a little bit aboutDrivers of Fed decision-making
Earlier this year, the market expected the Fed to cut its short-term interest rate target for this year by 150 basis points starting in March. Now, after strong job growth, a pick-up in manufacturing activity and a surprise upside in January's inflation data, the possibility of a rate cut in March has been ruled out, and even the possibility of a rate cut in May has fallen to less than 50%.
So when will the Fed finally act? Of course, we care about economic growth. With inflation at more reasonable levels and expectations for further price gains under control, they can place more emphasis on the task of "full employment." On the other hand, if the economy remains strong and the labor market is tight, they can keep interest rates high for a while to ensure that inflation can continue to fall back to 2%. In addition, markets have a role to play: looser financial conditions will support growth as long as they expect a rate cut, but there will certainly be limits, as the volatility around the latest inflation report shows.
The Fed must also address some deeper structural issues. First of all, why is the economy so strong? Perhaps the previous monetary tightening has not yet fully worked, or perhaps the easing of chain and labor market problems has provided a temporary boost to economic growth. Fed Chair Jerome Powell said both are correct. If that's the case, the economy will soon slow enough to tip the policy balance in favor of rate cuts.
However, there is an opposite explanation: perhaps monetary policy is not so tight. That is, a neutral, inflation-adjusted rate (a level that neither stimulates nor inhibits growth) is likely to be higher than the Fed's estimate of 05%, which means that the current federal** interest rate is less restrictive to the economy. I think this is correct: large and chronic fiscal deficits, combined with public subsidies for green investment, have pushed up the neutral rate. If that's the case, the Fed should keep interest rates higher for longer.
Second, how tight is the labor market? Despite the fact that the US unemployment rate is below 4%, there are still signs that the job market is cooling: the ratio of vacant jobs to unemployed workers has fallen sharply, and wage inflation has slowed. According to the Atlanta Fed's wage tracker, wage inflation is up from 6 a year ago1% to 50%；Wage inflation, as measured by the Private Sector Employee Employment Cost Index, rose from 5.5 a year ago1% to 43%。
At this point, the Fed** may be overly pessimistic. Their median value for "full employment" (where unemployment reached a level consistent with 2% inflation) remained at 4 in December0%, unchanged from the same period of the previous year. If, as recent data shows, the unemployment rate is actually lower, then the Fed does not need to drastically curb economic growth to achieve its goals. It could consider cutting interest rates earlier.
Since there are so many things that need to be clarified,The Fed** will certainly be keeping a close eye on the upcoming data。Developments are likely to push them to keep interest rates high beyond May. In addition, theyMarket expectations must also be taken into account: If hopes of a rate cut are dashed, financial conditions could tighten and unduly dampen economic growth. Striking the right balance and achieving a soft landing remains a big challenge.