Speaking later on Thursday, John Williams, president of the New York Fed, said the central bank “must keep moving” given it will “take time for supply and demand to come back into proper alignment and balance”, and further underscored the need for the Fed to “stay the course”.
He added: “With inflation still high and indications of continued supply-demand imbalances, it is clear that monetary policy still has more work to do to bring inflation down to our 2 per cent goal on a sustained basis.”
The Fed and the ECB have rapidly raised interest rates since last year to curb inflation they initially dismissed as “transitory”. The two central banks are assessing how much further to squeeze their economies, which will be complicated by the delayed effects of tightening on the economy.
Lagarde said financial markets should “revise their position” that the ECB would soon slow down its rate rises in response to signs that eurozone inflation has peaked.
Krishna Guha, of research company Evercore ISI, said the ECB was “earlier in the tightening cycle than the Fed” and that its “default path” was to continue with half-point moves at meetings in February and March. Eurozone rates remain lower than US and UK borrowing costs.
Brainard said the Fed will have “very, very extensive discussions” about the economic data at its next policy meeting on February 1 as it decides whether to ratify expectations for a quarter-point rate rise. She declined to officially endorse such a move, but said a slower pace will enable the Fed to “assess more data as we move the policy rate closer to a sufficiently restrictive level”.
Williams said it made “complete sense” for the Fed to have slowed the pace at which it is raising rates in December, given how far the rate has already risen. A slower pace will allow for officials to better analyse the trajectory of the data and “calibrate” policy. So far, the data have been a “mixed bag”, he told reporters after the event.
“At this stage, the speed is not the important thing,” he said, adding: “It’s really what level do we get to”, and how long the Fed stays there.
Most officials have signalled their support for the US central bank to shift from half point increases down to 0.25 percentage points, in contrast with expectations for the ECB. A majority also expects the US federal funds rate to peak at between 5 per cent and 5.25 per cent, suggesting two more quarter-point rate rises after February’s move. No cuts are projected until 2024.
The ECB raised interest rates by a total of 2.5 percentage points last year to combat a surge in prices, when inflation hit an all-time high of 10.6 per cent in October.
Lagarde added that headline, core and all other measures of inflation were still a concern at the central bank in Frankfurt. “Inflation, by all accounts, is way too high,” she said.
Headline inflation has fallen in recent months, but the core measure — which excludes movements in food and energy prices and is seen as a better measure of underlying price pressures — rose in the year to December to 5.2 per cent, from 5 per cent the previous month.
“It will take several months before core inflation eases to levels that make the ECB more comfortable,” said Frederik Ducrozet, chief economist at Pictet Wealth Management. “Virtually all ECB officials appear to be united in their fight against inflation, doves and hawks alike.”
Lagarde added that the eurozone’s resilient jobs market could lead to higher wages, in contrast to Brainard, who said US wages “do not appear to be driving inflation in a 1970s-style wage-price spiral”. She also pointed to a number of metrics, including ebbing labour demand and a significant weakening across the manufacturing sector, as evidence that the economy is cooling off and inflation is on a downward trajectory.
Fed chair Jerome Powell and other officials have expressed concern that services inflation, once food, energy and housing-related costs are stripped out, will keep broader price pressures higher than what is considered palatable and largely reflects the historically tight labour market.
Brainard on Thursday said those price pressures may in fact have been driven by supply-related dislocations and may not be “cyclically persistent”.
“It remains possible that a continued moderation in aggregate demand could facilitate continued easing in the labour market and reduction in inflation without a significant loss of employment,” she said.
Brainard said businesses and households had yet to see the “full effect” of last year’s rate rises, when they increased the policy rate from close to zero to more than 4 per cent. That point was echoed by Williams, who said he expects growth to slow to a “modest” pace of roughly 1 per cent and the unemployment rate to rise to around 4.5 per cent — about a full percentage point above its current level.
Inflation is set to slow to roughly 3 per cent this year, Williams said at an event hosted by the Fixed Income Analysts Society. It will then retreat to 2 per cent “in the next few years as further tightening of monetary policy realigns the balance between demand and supply”, he added.
Written by: Colby Smith, Chris Giles, Valentina Romei and George Steer
© Financial Times
