Fed's Rosengren: Rate Rises Key to Keep Economy From Overheating -- Update

Federal Reserve Bank of Boston President Eric Rosengren said Saturday additional interest-rate rises are needed to keep the economy on track, while warning that Fed officials need to make policy with an eye on longer-term issues over short-term data fluctuations.

Keeping rates at historically low levels "once we have achieved full employment risks the potential of an eventual overheating of the economy, which could be reflected in higher wages and prices, or higher asset prices," Mr. Rosengren said in a speech given at the International Atlantic Economic Conference in Montreal.

Since more job market improvements are likely, "prudent risk management would argue for the continued gradual removal of monetary policy accommodation in order to minimize the risk of outcomes that might prematurely shorten the current economic recovery," he said.

Mr. Rosengren has been a steadfast advocate for raising short-term interest rates as part of a bid to keep the economy in balance and growing.

He isn't currently a voting member of the interest-rate setting Federal Open Market Committee, but his views are squarely in line with what key officials are saying. On Friday, New York Fed leader William Dudley told an audience "is still appropriate to continue to remove monetary policy accommodation gradually."

Fed officials left their overnight target rate range unchanged at 1% and 1.25% at their September policy meeting. Officials also affirmed most still see another rate rise happening by year-end, with markets eyeing the December meeting as a time to act.

A number of officials, however, are worried that inflation, which has fallen well short of the Fed's 2% price rise target, means that even as the job market is strong, there is no reason to raise rates right now.

Mr. Rosengren said that what is going on with price pressures in the U.S. likely won't last. The weakness seen over much of this year is due to temporary factors, he said.

Inflation will stay low "until we get into the spring," he said. "As we get into next year...we'll be much closer to 2%. And I would be more worried if I didn't see wages trending up," he said.

Wage gains are "still not at the level I would expect it to be, but we are definitely seeing" gradual increases, he said.

Expectations of future inflation remain "well anchored," Mr. Rosengren said. All surveys and measures of inflation expectations find "basically the same answer: that these shocks are transitory, not permanent." But he added central bankers will need to make sure expectations don't weaken, and react if they do.

Mr. Rosengren allowed in his speech that the weakened link between a strong job market and higher inflation is a bit of mystery. But he said that shouldn't cause officials to ignore long-understood economic relationships, as he made the case for pressing forward with rate rises.

"While underlying economic relationships can and do change, one should not be too quick to assume that relationships are unhinged as a result of expectation errors for 'high frequency' data" the official said.

Monetary policy should of course take account of incoming data, but it is also important policy "not be too sensitive to incoming data -- especially when estimating important underlying economic concepts like the natural rate of unemployment and the equilibrium interest rate," he said.

Over recent years Fed officials have been lowering their estimates of the levels of unemployment and interest rates that they consider to be neutral in regards to the economy's performance. The practical effect of that has been to refrain from raising rates despite a historically low unemployment rate, and to reckon Fed rate rises will be less aggressive over time than it once was.

Mr. Rosengren cautioned against a wholesale reappraisal of these variables. He noted estimates of these variables tend to move less than was expected over time.

And on a tactical basis, "While attempting to infer possible long-run changes or implications from recent high frequency data may be reasonable, history shows that policymakers tend to place too much weight on short-term fluctuations in their real time estimates of long-run concepts."

Mr. Rosengren argued in favor of a longer term outlook for policy makers, saying "too much sensitivity to incoming data can cause monetary policy to be too easy in expansions and too slow to respond to recessions."

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

(END) Dow Jones Newswires

October 07, 2017 13:14 ET (17:14 GMT)