Fed’s Brainard sees more headroom on U.S. interest rates
DETROIT (Reuters) – The Federal Reserve may be able to push U.S. interest rates in the next year or two to above 2.9 percent without the higher borrowing costs putting the brakes on the current economic expansion, a key U.S. central banker suggested on Wednesday.
With economic growth strong, unemployment at 3.9 percent and inflation near the Fed’s 2-percent goal and looking likely to stay there, further gradual interest rate hikes are likely to be appropriate over the next year or two, Fed Governor Lael Brainard told the Detroit Economic Club, echoing recent comments from Fed Chair Jerome Powell and others.
But she went further, arguing that the ceiling for interest rate hikes may be higher than commonly thought.
In her view, made clear in the speech, stimulus from tax cuts and government spending under U.S. President Donald Trump are lifting the neutral level of interest rates. This is the level that allows investment and hiring to continue unimpeded, and a rise in it gives more headroom for the central bank to lift rates without slowing growth.
“With fiscal stimulus in the pipeline and financial conditions supportive of growth, the shorter-run neutral interest rate is likely to move up somewhat further, and it may well surpass the longer-run equilibrium rate for some period,” Fed Governor Lael Brainard told the Detroit Economic Club.
It is this shorter-run neutral rate, not the longer-run neutral estimate that is published each quarter by the Fed, that is the “relevant benchmark” for monetary policy, Brainard said. The Fed’s most recent estimate of the longer-run rate is 2.9 percent, about one percentage point higher than the Fed’s current policy target rate.
Most observers have taken this long-run rate to be a ceiling for Fed interest-rate hikes beyond which monetary policy would become restrictive, hindering growth.
Brainard’s assessment suggests the Fed’s current round of interest-rate hikes could continue longer, and top out higher, than financial markets currently anticipate.
Traders are currently betting the Fed will raise rates a total of four times this year, but slow down next year to just one or two. The Fed, in forecasts released in June, signaled three rate hikes for next year, and will publish fresh forecasts when it next meets in two weeks.
Brainard’s comments differed sharply from those by St. Louis Fed President James Bullard, who also on Wednesday argued the Fed should stop raising rates because low unemployment and fast economic growth will not translate into higher inflation because of the way the economy has changed since before the financial crisis.
Bullard said he believes Trump’s corporate tax cuts may prove to be a long-term boon to U.S. productivity growth, leading to a faster rate of sustainable economic growth.
By contrast Brainard, asked about the tax cuts by a member of the audience, said it was “too early” to tell if they will boost productivity or the economy’s supply side.
Uncertainty from trade tensions poses downside risks, just as easy financial conditions and tight labor markets pose upside risks, Brainard said. So far, though, higher tariffs are not having a “discernible” effect on prices or confidence, she said.
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