Christopher J Waller: There's still no rush
Speech by Mr Christopher J Waller, Member of the Board of Governors of the Federal
Reserve System, at the Economic Club of New York, New York City, 27 March 2024.
* * *
1
Thank you, Barbara, and thank you for the opportunity to speak to you today. My
subject, as it often is, is the outlook for the U.S. economy, and how that affects the
Federal Open Market Committee's (FOMC) continuing effort to reduce inflation to a
sustained level of 2 percent while maintaining a healthy labor market.
We made a lot of headway toward our inflation goal in 2023, and the labor market
moved substantially into better balance, all while holding the unemployment rate below
4 percent for nearly two years. But the data we have received so far this year has made
me uncertain about the speed of continued progress. Back in February, I noted that
data on fourth quarter gross domestic product (GDP) as well as January data on job
growth and inflation came in hotter than expected. I concluded then that we needed
time to verify that the progress on inflation we saw in the second half of 2023 would
continue, which meant there was no rush to begin cutting interest rates to normalize the
stance of monetary policy.
Over the past month, additional economic data has reinforced this view. February job
gains moved back up to 275,000, making the three-month average a strong 265,000,
and various inflation measures have continued to come in hot. Core personal
consumption expenditures (PCE) inflation jumped to 0.4 percent on a monthly basis in
January, after averaging around 0.1 percent in October through December last year.
And with February consumer price index (CPI) and producer price index inflation data in
hand, some forecasts are predicting core PCE inflation may be revised up for January
and is expected to come in at 0.3 percent for February, which we will learn about on
Friday. Adding this new data to what we saw earlier in the year reinforces my view that
there is no rush to cut the policy rate. Indeed, it tells me that it is prudent to hold this
rate at its current restrictive stance perhaps for longer than previously thought to help
keep inflation on a sustainable trajectory toward 2 percent.
I continue to believe that further progress will make it appropriate for the FOMC to begin
reducing the target range for the federal funds rate this year. But until that progress
materializes, I am not ready to take that step. Fortunately, the strength of the U.S.
economy and resilience of the labor market mean the risk of waiting a little longer to
ease policy is small and significantly lower than acting too soon and possibly
squandering our progress on inflation.
Turning to the performance of the U.S. economy, the Atlanta Fed's GDPNow model,
based on all current data, predicts first quarter growth in real GDP of 2.1 percent at an
annual rate. Similarly, the consensus from the Blue Chip survey of private sector
forecasters is 2 percent. This would be a significant slowdown from the average of
around 4 percent in the second half of 2024 but still quite solid growth.
Consumer spending, the largest component of GDP, seems to be moderating this
quarter. Retail sales fell significantly in January and then retraced about half of that
decline in February. Smoothing out these swings, they clearly indicate a moderation in
goods spending from the second half of last year. However, services spending,
excluding energy, grew moderately in January, which offset to some extent the decline
in goods spending. I will be watching on Friday morning to see what the February data
on personal income and spending show.
On the business side, surveys of purchasing managers in February continued to report
results we have been hearing for over a year. For manufacturers, the Institute for
Supply Management indicated a slight contraction in activity, with new orders and
production moving down a bit. This contrasts with nonmanufacturing businesses that
continued to see an expansion in activity, with measures of new orders and business
activity on the higher end of their readings over the past year.
Now let me turn to the labor market. The data is sending a mixed message on how
supply and demand are evolving. As I noted earlier, payroll data estimate that
employers added 275,000 jobs in February. This robust gain is not only above the
265,000 average level of job creation since November, but also above the 251,000
monthly average for all of 2023. Recent gains have been broad based across most
sectors, rather than concentrated in a few sectors, which may be a sign that demand is
not moderating as much as is needed to support continued progress on inflation.
Conversely, the household survey estimated that the unemployment rate rose to 3.9
percent in February. But that increase was driven mostly by an outsized rise in the
number of 16- to 24-year-olds counted as unemployed. Youth employment tends to be
volatile, so this rate may drop back in the next few months and, if so, pull the overall
unemployment rate back down as well.
Another sign of loosening in the labor market is that the number of people quitting their
jobs has fallen below the levels just before the pandemic. I believe most workers quit
their jobs for better pay or other benefits. So less turnover means firms do not need to
enhance their compensation packages to attract workers.
In reviewing wage pressures, the most recent data suggest nominal wage growth has
continued to ease. But most of these measures are still above their pre-pandemic
levels. And, considering overall compensation-wages and benefits -here, too, growth
has slowed but remains a bit elevated.
Looking across various indicators of labor demand, there hasn't been much change in
recent months. Job openings drifted down last year but then flattened out recently at a
still elevated level, while the pace of hiring is close to its pre-pandemic level. With
strong labor supply and little apparent change in demand in recent months, the ratio of
vacancies to people looking for work has been roughly flat after declining significantly in
2023. At 1.4 jobs for each person looking, that ratio is down from 2022's peak of around
2 and indicates that the labor market has loosened up. But the
vacancies-tounemployed rate is still higher than the 1.2 that prevailed before the pandemic and has
held steady around 1.4 for several months, which suggests that the labor market
remains tight.
Let me turn to a topic related to the labor market that has important implications for the
longer-term course of U.S. economy: productivity. When productivity across the
economy grows quickly, it means that output and income can also grow quickly without
putting upward pressure on inflation, so it supports rising living standards. And lately,
productivity has been growing fast. Over the final three quarters of 2023, it grew at a
pace a bit under 4 percent, much faster than the average since the 1970s. Some have
argued that this must be why we had such strong economic growth in 2023, even while
inflation was slowing. Perhaps, they say, we are at the start of another era of fast and
sustained productivity growth, such as the United States experienced from 1998
through 2004.
Believe me, I hope this is true, because it would be the basis for broadly shared
prosperity that raises living standards, but I am skeptical that it will last. The first thing to
note is that productivity growth is notoriously volatile. Though productivity grew fast for
the final nine months of last year, it actually fell in the first quarter of 2023 and rather
substantially for all of 2022. One may view this fast growth as making up for the earlier
declines. In fact, smoothing across the past two years, productivity growth averages a
bit above 1.25 percent annually. Also keep in mind that periods of fast growth that last
more than a few years are unusual, and it is also difficult to be sure about the causes.
When thinking about productivity, one has to distinguish between factors that raise
productivity in the short run but ultimately are one-off increases in the level of
productivity, as opposed to those that increase the long-run growth rate of productivity
so that the level is constantly increasing. So let me posit several factors that have been
suggested for explaining the recent increase in productivity and try to place them in the
one-off or long-run buckets.
Many people point to recent large investment projects in the United States, such as
those associated with the Inflation Reduction Act or artificial intelligence, as boosting
productivity. But these investments will take place over many years and may not have
done much yet to add to the nation's productive capacity. While it is possible they could
increase longer-run productivity growth, it remains to be seen if they will. Thus, they are
unlikely to explain the recent rise in productivity growth.
The recent surge in business start-ups after a sustained lull has also been mentioned
as a factor. Like the investment projects, it may be causing a boost to productivity, but it
is likely to occur over a number of years. And, unless the current boom in new business
formation continues into the future, once again this factor will at best raise the level of
productivity over the short term and not the long-run growth rate.
Another factor that is often pointed to is the resolution of supply chain problems. But
once the supply chain issues are resolved, this boost to productivity growth will end, so
this clearly is a short-run factor that will simply raise the level but not the long-run
growth rate of productivity.
Another potential cause of recent productivity growth is that the pandemic changed how
we work and use technology. While I certainly can see how this could affect the level of
productivity and short-run growth, once we have made those changes, they're done, so
I don't see this as a driver of sustained productivity growth. I have also heard the
argument that when labor turnover was very high during the pandemic, new hires were
being trained, and by the time they were ready to start contributing to production, they
would leave for a new job and start a new training process. Now that the pace of
turnover is back down to normal levels, firms are reaping the benefits of keeping newly
trained workers who then move up the learning curve at the firm. Again, while I see this
raising the level of productivity in the short run, it may simply be returning productivity to
previous levels.
I will be watching how productivity evolves in the near term. I will keep my fingers
crossed for more good news, but I am not convinced that the recent boom in
productivity growth will continue. Therefore, I will keep that in mind as I form my
judgments about the economic outlook and appropriate setting of monetary policy.
Now let's talk about inflation. We made a lot of headway in reducing inflation in the past
year or so, although the readings in the past two months have been disappointing. Both
total CPI inflation and core inflation that excludes energy and food rounded to a 0.4
percent increase for the month of February, which is obviously not progress toward our
inflation goal. While housing services prices, which rose in January, moderated a bit,
core goods prices, which had been falling recently, rose due to elevated import price
increases. In trying to judge what the underlying trend is for inflation, I tend to look at
annualized core measures over 3 or 6 months. For most of a year, I watched these
numbers come down more quickly than 12-month readings, telling me that we were
making substantial progress. But, more recently, the 3-month core CPI, which was
running at a 3.3 percent rate in December, rose to 4.2 percent in February. Six-month
core CPI, which was also 3.3 percent in December, was up to 3.9 percent last month.
These shorter-term inflation measures are now telling me that progress has slowed and
may have stalled. But we will need more data to know that.
The FOMC uses personal consumption expenditure inflation data to measure progress
toward our 2 percent goal, and we won't get those results for February until Friday. But,
as I noted at the start, based on the consumer and producer prices that we do have,
estimates suggest that core PCE inflation is likely to be elevated. Though the February
reading is estimated to step down from January's, this recent pace would not represent
significant progress toward 2 percent.
Let me pause here and make an important point about how I think about and want to
talk about adverse developments such as this recent inflation data and how as a
policymaker I manage risks to the economic outlook.
It is appropriate to point out that a month or two of data does not necessarily indicate a
trend, and there are good reasons to think that progress on inflation will be uneven but
likely to continue down toward 2 percent. At the same time, monetary policy is data
driven, and I do want to take it into account when formulating my economic outlook.
While I don't want to over-react to two months of data, I do think it is appropriate to
react to it.
There is ample evidence that the recent data has also been taken on board by both
financial markets and forecasters in adjusting their views of the economic outlook. The
markets have pulled back the number of expected rate cuts in 2024. FOMC participants
have also adjusted their views on policy in response to recent data and it is reflected in
the Summary of Economic Projections. Comparing the December 2023 projections to
those just released, one sees that the median number of cuts in the federal funds rate
for 2024 is still three, but the dots for 2024 have moved up, meaning at least several
policymakers removed one or more cuts from their projection. In fact, the number of
policymakers expecting more than three cuts in 2024 decreased significantly, while the
number expecting two or fewer increased. I interpret this as showing that the
Committee is not over-reacting to the recent data but is not discounting it either.
In my view, it is appropriate to reduce the overall number of rate cuts or push them
further into the future in response to the recent data. This reflects the reality of
managing an outlook in real time as data comes in. Subsequent data may well alter this
outlook again, but we shall see. Based on what we know now, there is no urgency in
taking that step.
So where do I see things standing? I see economic output and the labor market
showing continued strength, while progress in reducing inflation has slowed. Because
of these signs, I see no rush in taking the step of beginning to ease monetary policy.
The target range for the federal funds rate has been 5-1/4 to 5-1/2 percent since last
July, and I believe that this restrictive level is helping to reduce imbalances in the
economy and continuing to put downward pressure on inflation. All indications are that
the economy continues to grow at a healthy pace. While retail sales and some other
indicators suggest a softening in demand this quarter from the second half of last year,
when growth accelerated, the evidence for a significant slowdown is sparse.
Meanwhile, as the labor market continues to add jobs at a rapid pace, some signs point
to improvement in the imbalance between supply and demand, but others indicate
continued tightness.
My judgment on the balance of risks for monetary policy, which I explained in a speech
on February 22, hasn't changed: The risk of waiting a little longer to cut rates is
2
significantly lower than acting too soon. Cutting the policy rate too soon and risking a
sustained rebound in inflation is something I want to avoid.
As a result, in the absence of an unexpected and material deterioration in the economy,
I am going to need to see at least a couple months of better inflation data before I have
enough confidence that beginning to cut rates will keep the economy on a path to 2
percent inflation. Fortunately, we can wait to see how the data come in before deciding
the appropriate time to start lowering the policy rate. The remarkable U.S. economy
keeps on chugging along, adding jobs at a rate that over time will keep unemployment
near its current, historically low rate. But the overall strength of the U.S. economy
makes it a fairly easy decision to wait a little longer to get a better understanding of the
trajectory of inflation and, when appropriate, begin easing policy.
1
The views expressed here are my own and are not necessarily those of my
colleagues on the Federal Open Market Committee.
2
See Christopher J. Waller (2024), " What's the Rush? " speech delivered at the Finding
Forward Speaker Series, University of St. Thomas, Opus College of Business,
Minneapolis, Minnesota, February 22.