Fed's George: Rate Rises Needed to Ward Off Economic Overheating

Federal Reserve Bank of Kansas City President Esther George shrugged off persistently weak inflation data as a major issue bedeviling policy makers and called for more rate increases to keep the economy from running off the rails.

"Low inflation, in itself, is not a problem in an economy that is growing and operating at full employment," Ms. George said in remarks prepared for delivery before a gathering in Kansas City, Mo., on Wednesday. "Waiting for solid evidence that inflation will reach 2% before taking further steps to remove accommodation carries risks of overheating the economy, fostering financial instability, and perhaps putting in motion an undesirable increase in inflation," she said.

In such an environment, "the best way" to keep the economy on track is to "gradually adjust policy rates to more-normal settings," the official said.

Ms. George's remarks come as officials are struggling to square their desire to raise rates in an economy where they have failed to achieve their 2% price target since putting it in place in 2012. Officials generally expect to raise what is now a 1% and 1.25% overnight target rate by year's end. But a number of policy makers believe that is a mistake when inflation is at current levels.

Against the Fed's 2% inflation target, price pressure was up a mere 1.4% in August from the same month in 2016. Many Fed officials have argued the weakness this year is because of temporary factors. On Saturday, Boston Fed President Eric Rosengren, another strong supporter of rate rises, said he expects to see inflation rising by next year as the impact of these one-off factors abates.

But others aren't so sure. Speaking in Zurich earlier Wednesday, Chicago Fed leader Charles Evans -- he is a voting member of the interest-rate setting Federal Open Market Committee, unlike Ms. George -- said when it comes to rate increases, "I don't really see any harm in waiting longer just to take more stock of the inflation situation."

In her speech, Ms. George said she wasn't alarmed about inflation right now and downplayed the importance of the inflation target. "Too much focus is placed on achieving this specific numerical target when, in fact, inflation is likely to fluctuate around that target with deviations that occasionally might persist," she said.

"Overall, the economy looks to be in good shape" and "low inflation is not a current worry," she said. Price gains are low now because of longer-run economic changes and "idiosyncratic shocks."

Ms. George explained the important thing to focus on is even with low inflation the economy is doing well on the jobs front. And she reckons it might take a lot to get inflation back up to the target right now.

"Because of the weakness of the relationship between inflation and slack, it would take a considerable overheating of the economy to move inflation more quickly up to 2%," Ms. George said. "Such overheating would, in the meantime, foster a misallocation of resources and risk financial instability as asset prices continue to climb."

What's more, she believes Fed officials can't wait for inflation to get to the targeted levels before raising rates, because if they do "it may be too late to prevent an undesirable overshooting" and a likely policy response that could end in an economic downturn.

Ms. George's hawkish remarks likely go beyond what most of her colleagues believe. For some time now, the policy maker has warned the Fed's easy money policy stance was running the risk of an inflation breakout and financial instability. None of those warnings have proved true so far.

Write to Michael S. Derby at michael.derby@wsj.com

(END) Dow Jones Newswires

October 11, 2017 13:17 ET (17:17 GMT)