Interest rates must be raised before there is full employment and 2% inflation, Federal Reserve Bank of Cleveland President and Chief Executive Officer Loretta J. Mester said Monday, noting she would be "comfortable" if rates rose before June.
"Because monetary policy affects the economy with a lag, policy needs to be forward looking and rates will need to begin to move up before we have fully reached our goals," Mester told the National Association for Business Economics, according to prepared text released by the Fed. "Even after the first rate increase, policy will remain very accommodative for some time and this will promote attainment of our policy goals. The economy is now on firmer footing and our monetary policy stance should reflect that. Indeed, if incoming economic information continues to support my forecast, I would be comfortable with liftoff in the first half of this year. I would like our policy statement to allow for this possibility."
But there is no pre-set path for monetary policy, she noted, and liftoff and future rate decisions "will be based on incoming information."
Those decisions must be explained, Mester said. "Since the FOMC has been given the responsibility to set monetary policy, it is incumbent upon us to explain the rationale for our policy decisions."
Labor markets are signaling a nearing to full employment, Mester said, noting she expects the jobless rate to fall to 5.25% or lower by year end. And, while wage growth remains "subdued," it's not unusual for wages to grow with a lag. Further, Mester predicted inflation will reach 2% by the end of 2016.
First quarter growth will be hurt by poor weather, much like last year, Mester said, but "the effect will be temporary."
While the FOMC has been increasing transparency, as normalization approaches, "clear communication is becoming ever more important. The better we can communicate our monetary policy framework and the basis for policy decisions, the more likely we can avoid undesirable disruptions and turbulence that could result from misunderstandings as we progress to a more normal policy stance."
Mester offered four steps to improved communication: "First, presenting a forecast that could serve as the benchmark for understanding the FOMC's policy actions and post-meeting statements would be an aid to communication"; linking the variables in the Summary of Economic Projections; offer "more information on policymakers' views about the uncertainty around their projections"; and simplify the post-meeting statement "to better illuminate that policy is being formulated based on the economic outlook and on realized and anticipated progress toward our policy goals."
By using a forecast as a benchmark, it would be easier to show "how the economic outlook is dependent on the future path of monetary policy. It would clarify that for the FOMC to achieve its policy goals over the longer run, rates will need to begin rising before both goals are fully attained."
While the SEP has been "important," it could be improved if ranges are replaced with each policymaker's forecast "for growth, unemployment, and inflation, and what policy path he or she believes will achieve those outcomes. This could be done without revealing the identities of the participants."
