Fed’s Waller urgesing markets to give disinflation a chance

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Federal Reserve policy could pause its tightening cycle this month if incoming inflation numbers cooperate. Speaking at a Reuters NEXT Newsmaker event in Washington, D.C., where he sat for an interview with Reuters Senior Federal Reserve Correspondent Howard Schneider, Federal Reserve Board Governor Christopher Waller signaled on Thursday that he is ready to hold the benchmark overnight interest rate steady at the central bank’s upcoming September 15-16 gathering.

The current rate, held in the 3.50% to 3.75% range since December, is only slightly restricting aggregate demand, according to Waller. Rather than reaching for immediate hikes, he urged his colleagues to practice restraint.

“I’m going to paraphrase John Lennon here. Give disinflation a chance”

Waller added that he would refrain from prematurely raising rates to allow a cooling process to play out, stating, I'm not going to say let's wait until next year, but let's just wait and see if we get some improvement on this. He also noted that if there is continued progress toward our 2% goal, then I am willing to support holding the policy rate at its current level.

Encouraging Trajectory in Core Inflation Numbers

Waller’s argument for patience is anchored to shifting price trajectories. While the level remains above the central bank’s explicit 2% goal, the downward momentum has created space to evaluate monetary lag, with Waller noting that inflation is making slow but continued progress on reaching the 2% target.

The U.S. Labor Department is scheduled next week to release the August Consumer Price Index report, which will be the last major data on prices ahead of the next Fed policy meeting. Although the Fed prefers other metrics, Waller noted that the upcoming CPI figures will provide a pretty accurate idea of where the Personal Consumption Expenditures Price Index—which was up 3.7% in July on a year-over-year basis—ultimately lands.

Weighing Competing Economic Pressures and Market Reactions

The policy debate does not occur in a vacuum.

Ahead of Waller’s remarks, investors had been pricing in solid odds of a quarter-percentage-point rate hike this month, following dissents by three Fed policymakers against the central bank’s decision to leave rates unchanged at the July 28-29 meeting, where the dissenters favored a quarter-percentage-point hike. Federal Reserve Chairman Kevin Warsh indicated last week at the Kansas City Fed’s Jackson Hole economic symposium in Wyoming that if inflation pressures did not moderate, action by the central bank to ensure they did was likely.

Financial markets reacted swiftly to Waller’s comments on Thursday. Stock prices rose while yields on Treasuries fell, and short-term interest-rate futures indicated traders had slashed rate-hike bets, with the futures showing the Fed is more likely to leave rates unchanged this month than raise them, though the central bank is still seen as almost certain to deliver a rate hike by the end of this year.

Analyst Perspectives and Divergent Fed Viewpoints

Analysts at Evercore ISI noted that Waller’s remarks suggest he is leaning towards a hold as long as the data supports it. His comments echo recent statements from New York Fed President John Williams, who told CNBC on Wednesday that the latest inflation data has been encouraging … but again, we can't just look at a month or two and be confident inflation is headed in the right direction, adding that what the Fed will do with rates depends on the data and risk assessments.

Despite his openness to a pause, Waller left the door open for tightening. He stated that if inflation comes in hot, I would consider a rate hike at the September 15-16 policy meeting, warning that the benchmark rate is only slightly restricting aggregate demand and it may not take much acceleration in inflation to nudge me into supporting tighter policy.