Fed’s Brainard: Interest rate policy will have to be restrictive ‘for some time’ even with recent moderation of inflation

Federal Reserve Vice Chairman Lael Brainard, one of the most dovish of the top U.S. central bankers, talked tough Thursday about the need to keep interest rates high.

“Even with the recent moderation, inflation remains high, and policy will need to be sufficiently restrictive for some time to make sure inflation returns to 2% on a sustained basis,” Brainard said in a speech at the University of Chicago Booth School of Business.

Financial markets do not appear to be listening, however. Investors who trade in the Federal funds futures market see a good chance the Fed cuts interest rates as soon as September.

In her speech, Brainard did not address the debate over whether the Fed would slow the pace of rate hikes to a 25 basis point move at their meeting in two weeks or maintain a 50 basis point pace seen last month. Over the summer and fall, the Fed was raising rates at in ultra-large 75 basis point moves.

Brainard said that the current level of the benchmark rate is high enough to push down inflation.

St. Louis Fed President James Bullard, one of the more hawkish Fed officials, has argued that rates are not in restrictive territory yet.

“The FOMC moved policy into restrictive territory at a rapid pace and subsequently downshifted the pace of increases in the target range at its most recent meeting. This will enable us to assess more data as we move the policy rate closer
to a sufficiently restrictive level, taking into account the risks around our dual-mandate goals,” Brainard said.

In addition, the Fed is shrinking its balance sheet, she noted.

In her remarks, Brainard did sound some dovish themes.

The full negative impact of last year’s rate hikes have yet to hit the economy, even as it has started to slow, she noted.

“The full effect on demand, employment, and inflation of the cumulative tightening that is in the pipeline still lies ahead,” she said.

Brainard said inflation and compensation trends along with anchored inflation expectations, meant that a destructive wage-price spiral could be avoided.

In the 1970s, prices and wages seemed to take turns rising, ultimately leading to soaring inflation only cooled by interest rates above 20%.

Lack of this dynamic could help reduce the risk of a severe downturn, she said.

“It remains possible that a continued moderation in aggregate demand could facilitate continued easing in the labor market and reduction in inflation without a significant loss of employment,” she said.

Stocks
DJIA,
-0.25%

SPX,
-0.22%
were lower in afternoon trading while the yield on the 10-year Treasury note
TMUBMUSD10Y,
3.397%
rose after hitting the lowest level since September.

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