(Bloomberg) -- Federal Reserve Bank of Kansas City President Jeffrey Schmid said he favors a slower pace of interest-rate reductions given uncertainty about how low the US central bank should ultimately cut rates.
Schmid, in his first public remarks since August, said he hoped for a “more normalized” policy cycle where the Fed makes “modest” adjustments to sustain economic growth, stable prices and full employment. He said a slower pace of rate reductions will also allow the Fed to find a so-called neutral level — where policy neither weighs on nor stimulates the economy.
“Absent any major shocks, I am optimistic that we can achieve such a cycle, but I believe it will take a cautious and gradual approach to policy,” Schmid said Monday in prepared remarks for an event in Kansas City, Missouri.
Policymakers cut interest rates by a larger-than-usual half percentage point at their meeting last month, lowering rates for the first time since the onset of the pandemic, as the labor market showed signs of weakness and inflation approached the Fed’s 2% goal.
“While I support dialing back the restrictiveness of policy, my preference would be to avoid outsized moves, especially given uncertainty over the eventual destination of policy and my desire to avoid contributing to financial market volatility,” Schmid said.
Economic data since the September meeting has shown hiring over the past three months was stronger than initially expected, and market participants now anticipate a smaller, quarter-point cut at the Fed’s Nov. 6-7 meeting.
“My read is that we are seeing a normalization rather than a significant deterioration of conditions,” Schmid said about the labor market, adding that employers are no longer feeling the need to hoard workers, as they did immediately following the pandemic, and are hiring less aggressively.
“All of this will at least temporarily slacken the labor market as employers make these adjustments,” he said.
The Kansas City Fed chief, who will vote on monetary policy next year, said he expects rates to settle “well above” levels seen in the decade before the pandemic. Such a change could be driven by higher productivity growth and investment, and by an increase in government debt. He added that structural forces at play before Covid, including an aging population, haven’t gone away.
“Though it is hard to know which of these factors will dominate — productivity, debt or demographics — we must be open to the possibility that interest rates will settle higher than we observed before the pandemic,” Schmid said.
Balance Sheet
Schmid said financial-market volatility caused by lowering rates rapidly could also complicate the Fed’s efforts to shrink its balance sheet. The large size of the Fed’s balance sheet, Schmid said, is distorting credit allocation by reducing the traditional gap between short-term and long-term interest rates.
“The long-term health of the traditional banking industry, which is well represented in my Federal Reserve district, requires a positive slope to the yield curve,” he said. “A smaller balance sheet concentrated in shorter duration securities would lessen our impact on the slope of the yield curve.”
Earlier Monday, two other Fed officials signaled they also wouldn’t back another big cut, favoring instead smaller moves as the central bank continues lowering rates.
Dallas Fed President Lorie Logan said officials should proceed carefully amid a high level of economic uncertainty.
“If the economy evolves as I currently expect, a strategy of gradually lowering the policy rate toward a more normal or neutral level can help manage the risks and achieve our goals,” Logan said.
Neel Kashkari, president of the Minneapolis Fed, said he, too, favored reducing rates at a slower pace in the coming quarters.
“Right now I am forecasting some more modest cuts over the next several quarters to get to something around neutral, but it’s going to depend on the data,” Kashkari said.
(Updates with other Fed officials’ comments from 13th paragraph. An earlier version corrected spelling of Kansas in first paragraph.)
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