Raphael Bostic, Speech: Staying Purposeful and Resolute in the Battle against Inflation

“My baseline outlook is for GDP to grow about 1 1/4 percent in the second half of 2022, and about 1 percent in 2023. I think we will end 2022 with an unemployment rate in the neighborhood of 3.7 percent, which is about where we are now and still low by historical standards.”

“By some estimates, an unemployment rate of slightly above 4 percent represents about the level of full employment, so we may well be overshooting the maximum employment side of our dual mandate now, particularly given the current wide gap between labor demand and labor supply. If that’s true, we may have a bit of maneuvering room so that we can continue to tighten policy—if we deem that appropriate—without inflicting undue damage on labor markets.”

“One of the main points I want to leave you with is that we must look to signals in addition to inflation readings to guide our policy. That’s because inflation will be among the last economic indicators to materially shift. Simply waiting for inflation to decline all the way to 2 percent before backing off on tightening may not be the best approach.”

“Be assured that I am not advocating a quick turn toward accommodation. On the contrary. You no doubt are aware of considerable speculation already that the Fed could begin lowering rates in 2023 if economic activity slows and the rate of inflation starts to fall.”

“I would say: not so fast.”

“My staff has analyzed past tightening cycles. This work is instructive, especially in highlighting what not to do … The main takeaway from their research is that history shows we must be resolute if we are to completely uproot inflation. What economists have come to call stop-and-go monetary policy—tightening in the face of rising inflation only to reverse course abruptly when unemployment rises—likely helped fuel inflation during the late 1960s and 1970s.”

“To sum up the policy reversals, as the FOMC repeatedly shrank and then grew the money supply, the federal funds rate climbed from about 4 to over 9 percent in two years then dropped back to less than 4 percent over about a year-and-a-half, and then scaled up again to above 10 percent three years later, in the middle of 1974. The funds rate declined yet again to around 4 percent in late 1976 before beginning a steady climb and holding at over 8 percent … In hindsight, the Fed reacted too quickly to changes in the real economy, such as rising unemployment. Policy reversals never allowed inflation to fully recede to the 1 to 3 percent range for most of the 1980s.”

“Changes in the stance of monetary policy typically affect economic growth first, particularly in interest-rate-sensitive sectors … These are impacts on what economists call the “real economy” that typically occur well before any slowing in the underlying rate of inflation. How long does this take to play out? A large body of research has tried to answer this question … (and) … point to a two-year lag between monetary policy actions and their main effect on inflation.”

“We’re seven months into the tightening cycle. We likely still have some ways to go. Ideally, I would like to reach a point where policy is moderately restrictive—between 4 and 4 1/2 percent by the end of this year—and then hold at that level and see how the economy and prices react. I do not think we should continue raising rates until the inflation level has gotten down to 2 percent. Because of the lag dynamics of our policy that I discussed earlier, this would guarantee an overshoot and a deep recession. My baseline outlook is that the macroeconomy will be strong enough that we can tighten policy to that point—4 to 4 1/2 percent—without causing undue dislocation in output and employment.”

“Once policy reaches what I judge an appropriately restrictive level, I’m going to analyze and assess how the Committee’s policies are flowing through the economy. If economic conditions weaken appreciably—for example, if unemployment rises uncomfortably—it will be important to resist the temptation to react by reversing our policy course prematurely.”