With monetary policy close to neutral levels and no signs of an overheating economy, the Federal Reserve should move cautiously, Federal Reserve Bank of Atlanta President Raphael Bostic said Thursday.
The Fed should “proceed cautiously, with a keen eye on the data,” Bostic said in a speech at the University of Georgia, according to prepared text released by the Fed. “This will particularly be the case over the next six to 12 months, as I look for signals in the data that might confirm or refute my current position.”
Bostic, who has a vote this year on the Federal Open Market Committee, added, “I currently think we’re within shouting distance of neutral, and I do think neutral is where we want to be. I’m not seeing clear signs of overheating, nor am I seeing any indications of a material weakening in the macroeconomic data at the moment.”
While he wouldn’t predict what will happen at the Fed meeting Dec. 18-19, Bostic said he would keep an open mind in case data “deliver clearer signals of either” weakening or overheating, and “I would be fully prepared to support policy actions to mitigate the risks in either direction.”
Any while the goal is achieving neutral policy — one that neither stimulates nor restricts economic growth — the problem is “this neutral rate is not something we observe directly, and as such, we can only infer its position.” He also noted economic capacity “can be a moving target.”
With unemployment at 3.7% — “a level that has not been sustained for at least a half-century” — below what is believed to be the natural rate of unemployment, Bostic said this is a “high-pressure” period.
“Dating back to 1960, every high-pressure period ended in a recession,” he said. “And all but one recession was preceded by a high-pressure period.”
And while many possible explanations exist to explain the “relationship between high-pressure periods and economic downturns,” Bostic says he’s not convinced the thought “that the relationship is entirely spurious” can be considered be “good risk management practice.”
“I think a risk management approach requires that we at least consider the possibility that unemployment rates that are lower than normal for an extended period are symptoms of an overheated economy,” he said.
This creates a situation where central banks aggressively raise rates and the economy weakens. “You might argue that the simple answer is to not respond so aggressively to building signs of inflation, but that would entail risks that few responsible central bankers would accept,” Bostic noted.
While inflation expectations are currently stable, “we know little about how far the scales can tip before it is no longer so.”
Raising rates too soon and too quickly also engenders risk.
“The crux of the issue, as I see it, is that it is very difficult in real time to determine when the economy is actually overheating,” he said. “That is especially true at the moment, when the signaling from the nominal side of the economy is, if anything, still a bit subdued.”
