If anyone needs an explanation about why the stock market was soft on Friday, look no further than more Federal Reserve jawboning about the ability and desire to raise interest rates. This time it is the words of Eric Rosengren, president of the Federal Reserve Bank of Boston.
Rosengren’s speech is called “Exploring the Economy’s Progress and Outlook.” It may sound harmless, expect for the notion that Rosengren is one more Fed president out talking up the chances of a Fed rate hike coming sooner rather than later.
Friday’s speech comes on the heels of a period of extremely low volatility and light trading volumes in the equities market. Speaking to the South Shore Chamber of Commerce in Quincy, Massachusetts, Rosengren said that to ensure the U.S. economy remains at the full employment level which it is now approaching, a gradual tightening of monetary policy is likely to be appropriate.
The term “gradual” might not tilt toward an immediate fear of rapid and aggressive rate hikes. That is also on the heels of this week’s Beige Book containing more instances of “moderate” and “modest” than ever.
Rosengren’s quotes sound a bit more firm though. He said:
A failure to continue on the path of gradual removal of accommodation could shorten, rather than lengthen, the duration of this recovery.
My personal view, based on data that we have received to date, is that a reasonable case can be made for continuing to pursue a gradual normalization of monetary policy.
Despite headwinds from abroad, Rosengren points to the gradual tightening of labor markets and inflation slowly returning to the Fed’s 2% inflation target, even with some conflicting signals in the economic data over the summer.
More data cited was payroll growth, averaging a bit more than 200,000 net jobs per month over the past year. Rosengren said that most forecasters expect that labor markets will continue to tighten and the unemployment rate will continue to fall. This is even with the note that GDP growth has been disappointing, Rosengren’s speech notes that at least part of the 2016 GDP weakness is from temporary inventory adjustments that are likely to be reversed. On this, Rosengren said:
I expect some continuing drag from foreign activity. But underlying domestic strength is likely to be sufficient to engender continued improvement.
The speech has some other points as well that would make some people understand how on the fence the Fed really is these days. There are risks to the outlook, global concerns and a note that an overheated economy exceeding sustainable output and employment would pose risks to maintaining full employment over time. Rosengren even noted how difficult it is to slow an economy down to a sustainable rate without going too far and causing a recession.
Still, there is a note that waiting too long to tighten could lead to conditions that require more rapid increases. That would ultimately bring the risks of a more pronounced slowing of growth and rise in unemployment. And of course there is the risk brought up that some asset markets would become “too ebullient,” which means “cheerful and full of energy,” and concern was voiced over commercial real estate prices.
Rosengren’s commentary ahead of the formal speech concludes:
The risks to the forecast are becoming increasingly two-sided, in my view. Weakness emanating from abroad poses short-term downside risks to the domestic U.S. economy,” yet there are also “longer-term risks from significantly overshooting the U.S. economy’s growth.
The long and short of the matter is that the Federal Reserve would like to raise interest rates. At the same time, it is scared to raise rates. Stay tuned.