Why the economy can survive higher rates

From: POLITICO's Morning Money - Tuesday Jan 18,2022 01:01 pm

Jan 18, 2022

By Kate Davidson and Aubree Eliza Weaver

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Federal Reserve Chair Jerome Powell made clear to lawmakers last week that the Fed is ready to stamp out scorching prices.

Governor Lael Brainard tried to reassure them that the central bank has its eye on workers, too.

How the Fed is able to balance those two sides of its mandate — promoting both price stability and employment at a time of extraordinary disruption in the economy — will shape the legacy of Powell's central bank.

Wary Democrats have urged Fed officials not to pull back too much support from the economy too quickly lest policy makers deprive many marginalized workers of the benefits of a tight labor market, including plentiful job opportunities and rising wages. Unsaid is also the political danger of a slowing economy heading into the midterm elections in November.

Powell’s reply: A full labor-market recovery will require a long economic expansion, which can’t happen without stable prices. Waiting too long to tackle inflation could force the Fed to raise rates faster, triggering a recession, he said, “and that would be bad for workers.”

Brainard took a slightly different tack at her nomination hearing two days later: Just because rates may soon start rising doesn’t mean the jobs picture will stop improving, she said.

“We are taking action on the monetary policy front that I have confidence will bring inflation down while continuing to allow the labor market to return to full strength over time,” she told lawmakers on the Senate Banking Committee.

The point — that the Fed can achieve a so-called soft landing — seemed aimed at Democrats who are clearly anxious that the central bank is backing away from its newly adopted strategy of holding off on rate hikes until policymakers see “broad-based and inclusive” maximum employment.

Fed officials in December penciled in three rate increases this year, and markets now widely expect the Fed will lift off in March, when the central bank ends its asset-purchase program. That assumption was reinforced by a string of central bank officials who spoke last week before the Fed’s Jan. 25-26 meeting and signaled they would support a rate increase in March.

“We will be in a position to do that, I think, as soon as asset purchases are terminated,” Brainard said of rate increases. As for rate hikes over the rest of the year, “we’ll simply have to see what the data requires.”

Brainard said she was confident that policymakers can maintain maximum employment while bringing inflation down to their 2 percent target. But the Fed’s track record of gently slowing the economy is mixed at best.

Skanda Amarnath, executive director of Employ America, which advocates for policies that promote tight labor markets, said it is possible for the market to continue improving even as interest rates rise. Last year saw rapid gains in employment, the employment-to-population ratio and wages. Slowing things down from a breakneck pace doesn’t mean coming to a screeching halt — but it’s risky, he said.

“There are examples historically where that’s happened,” Amarnath said. “But you want to do it at a time when you’ve brought everyone back into the labor market” — that is, people who lost their jobs during the pandemic, or lost wages, he said.

“I don’t think that’s actually as far away as people think,” he added.

Rakeen Mabud, chief economist at the Groundwork Collaborative, a progressive economic think tank, said the problem with rate increases is they won’t address what folks at Groundwork and some lawmakers see as a major contributor to inflation: big businesses unfairly jacking up prices.

“When we start to understand price hikes through the lens of corporate power, it becomes abundantly clear that the last thing we want to do is raise rates, because raising rates will push up unemployment, which will hurt the people who are bearing the brunt of price hikes right now,” she said. “Raising rates in this moment and this environment would calcify the inequities that we already have in our labor market and we’ve had for way too long.”

IT’S TUESDAY — We’ve got new Fed nominees and it’s a short week, so we’re already off to a good start. Have a hot tip, take or story idea to kick off the week? Send them our way at kdavidson@politico.com or aweaver@politico.com, or on Twitter @katedavidson or @aubreeeweaver.

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DRIVING THE WEEK

White House adviser Gene Sperling and Treasury Secretary Janet Yellen speak to the U.S. Conference of Mayors’ annual meeting Wednesday … House Financial Services hearing on the Community Development Block Grant program Wednesday … World Bank President David Malpass has a virtual discussion with the Peterson Institute for International Economics Wednesday … SEC Chair Gary Gensler speaks at the Exchequer Club Wednesday …

HUD Secretary Marcia Fudge, Labor Secretary Marty Walsh and Commerce Secretary Gina Raimondo speak to U.S. Conference of Mayors Thursday … House Financial Services hearing on ending homelessness Thursday … House Energy and Commerce hearing on the crypto industry’s use of electricity Thursday … FDIC Chairman Jelena McWilliams speaks at a virtual discussion on advancing diversity and inclusion in the financial services sector Friday.

FIRST LOOK: WARREN, REED PRESS FINANCIAL RESEARCH AGENCY — Our Victoria Guida: “Sens. Elizabeth Warren (D-Mass.) and Jack Reed (D-R.I.) are urging the head of the Office of Financial Research to update them on what his data-gathering agency is doing to help regulators measure emerging risks to financial stability, like climate change.

“The lawmakers asked OFR Director Dino Falaschetti, an appointee of President Donald Trump, in a letter Friday about how he plans to use the agency’s power to collect key data on cryptocurrencies, leverage in private funds like Archegos and cybersecurity, among other risks. ‘The areas described above are a non-exhaustive set of examples of serious risks to financial stability where OFR can provide [Financial Stability Oversight Council] member agencies with the information and clarity necessary to make effective policy decisions to protect consumers and our economy as a whole,’ they wrote.”

MM sidebar: OFR hasn’t been doing much since the Trump administration slashed funding and staffing, but even under the Obama administration, the independent agency has never aggressively used its data collection powers. But this letter is an interesting one since regulators consistently highlight insufficient information as some of the biggest barriers to dealing with what they see as key financial risks. Unclear how Falaschetti, who was previously a top aide to former House Financial Services Chair Jeb Hensarling (R-Texas), might respond though.

BITCOIN CRASHES THE MIDTERMS — Our Ben Schreckinger: “The coming midterms are shaping up as the election cycle in which cryptocurrency comes into its own as a bona fide issue in American politics. The technology, which has evolved from a novelty to a transformative global industry over the past decade, enables new forms of digital money that are resistant to centralized control. …

“Aarika Rhodes, an elementary school teacher mounting a left-leaning primary challenge against California Democrat Brad Sherman, the most prominent critic of cryptocurrency in the House, is promoting the technology in her run. She said she has taken several thousand dollars worth of donations in cryptocurrency to date, having embraced it after talking to voters and hearing from crypto advocates who urged her to draw a distinction with Sherman on the issue.”

This quote: “More and more people of color, women, single moms are looking into Bitcoin,” the largest cryptocurrency, Rhodes said. “I never met anyone who was against it.”

COURT ORDERS SEC TO PRODUCE INTERNAL NOTES IN RIPPLE CRYPTO CASE — Our Sam Sutton: “A federal judge overseeing a court battle between the SEC and blockchain company Ripple has ordered the agency to turn over internal documents that could shed light on how officials developed their views on digital assets.

BIDEN MOVES TO REMAKE THE FED — Our Victoria Guida: “President Joe Biden's latest nominations to the Federal Reserve Board mark a major victory for lawmakers and other diversity advocates who have long pushed for new voices at the world's most powerful central bank. Biden on Friday tapped two Black economists — Lisa Cook and Philip Jefferson — for open seats on the board..”

—Also, from Bloomberg’s Simon Kennedy: Treasury Secretary Janet Yellen marked Martin Luther King Day by declaring that the U.S. economy has “never worked fairly for Black Americans -- or really for any American of color.”

DEMOCRATS START BUILDING THEIR 2022 CASE ASSUMING BBB WILL FAIL — Our Christopher Cadelago: “It’s far from the ideal position . And party leaders and campaign strategists are holding out hope that the White House may still be able to revive nascent talks around the initiative to at least salvage some popular elements. But in interviews with nearly two dozen Democrats involved in the upcoming election, there is an increasing sense that political inertia may well win out and that their party will be forced to radically adapt its core pitch to voters.”

OMICRON, INFLATION DRIVE DOWN GROWTH OUTLOOK — WSJ’s Harriet Torry and Anthony DeBarros: “Forecasters surveyed by The Wall Street Journal this month slashed their expectation for growth in the first quarter by more than a percentage point, to a 3 percent annual rate from their forecast of 4.2 percent in the October survey.”

—Meanwhile, WaPo’s David Lynch reports “the cost of sending a standard metal container from China to the U.S. West Coast remains more than three times what it was one year ago and is expected to remain elevated through the first half of the year, fueling painful annual inflation readings, according to the Freightos index and industry executives.”

XI RAISES CONCERNS ABOUT FIGHTING INFLATION: From our Doug Palmer: Chinese President Xi Jinping on Monday expressed concern that an overly aggressive campaign by central banks to rein in inflation could hurt the global economy, especially developing countries.

“The global low inflation environment has notably changed, and the risks of inflation driven by multiple factors are surfacing,” Xi said in a virtual speech to open the World Economic Forum’s Davos Agenda. “If major economies slam on the brakes or take a U-turn in their monetary policies, there would be serious negative spillovers.”

—Speaking of China: It’s economy is slowing, NYT’s Keith Bradsher reports. And its central bank cut its key interest rate for the first time in almost two years Monday, a stark divergence with other major economies, Bloomberg reported.

WHAT WE’RE LISTENING TO — Our colleague Victoria Guida and American Banker’s Brendan Pedersen talking about the power struggle at the FDIC, on IntraFi Network’s Banking With Interest podcast.

BECOME A GLOBAL INSIDER: The world is more connected than ever. It has never been more essential to identify, unpack and analyze important news, trends and decisions shaping our future — and we’ve got you covered! Every Monday, Wednesday and Friday, Global Insider author Ryan Heath navigates the global news maze and connects you to power players and events changing our world. Don’t miss out on this influential global community. Subscribe now.

Fly Around

FULL RECOVERY IN GLOBAL LABOR MARKET COULD TAKE YEARS — WSJ’s Paul Hannon: “It will take at least two years before global unemployment falls back to pre-pandemic levels, according to fresh projections, with joblessness in poor countries remaining high even as labor markets in rich countries become increasingly tight.”

GIANT STOCK SWINGS KICK OFF 2022 — WSJ’s Gunjan Banerji and Peter Santilli: “U.S. stocks are off to a rocky start in 2022. Under the surface, things are even more volatile. More than 220 U.S.-listed companies with market capitalizations above $10 billion are down at least 20 percent from their highs. While some have bounced from their lows, many remain in bear-market territory.”

CREDIT SUISSE CHAIR RESIGNS — AP’s Jamey Keaten: “Credit Suisse said Monday that its chairman has resigned following an internal investigation that reportedly found he violated quarantine rules intended to fight the COVID-19 pandemic.”

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