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This article is second in the series "FED should not rush rate hike". In the first article we argued that FED reserve tightening will have an undesired rapid tightening across yields, corporate and mortgage and further speculation will exacerbate it early stages of hike and posed the question whether evidence are sufficient for FED to push ahead.
US Federal Reserve has dual mandate - price stability and maximum employment
US Federal Reserve need to look beyond these two particular data and have to focus on growth and growth related factors. Simply because growth and rise in aggregate demand will finally lead FED towards its goal and as of now data says growth is recovering but still may not be solid enough.
- In first quarter GDP growth bottomed at just 0.2%. Yesterday Kansas FED manufacturing survey reached lowest level since December 2013. Most of the growth statistics have floundered sharply to the downside suggesting that economic growth might be losing momentum.
However unemployment rate reached very close to FED's longer term normal range, currently at 5.4% just about 1/2 - 1 percent point above to what can be considered as normal.
Focus now turns to second mandate, which has continued to remain soft throughout the period, in spite of near zero interest rate and $ 4 trillion stimulus injection. However recently showing signs of comeback.
- Today inflation stat showed while core inflation remains strong growing 0.3% m/m and 1.8% y/y, headline inflation remained weak fell -0.2% y/y.
FED should not rush to hike rates, which runs the risk of derailing inflation, instead should late it move above 2% goal to ensure price pressure and expectation both have solidified.
Lessons from last rate hike -
- Last time first rate hike came in June 2004, when trimmed mean PCE inflation reached almost 2.3%.
- One can argue the gap between Federal funds rate and PCE was just about 1.3% then compared to 1.65% now. However this time inflation as well as expectation remain much weaker than historic levels and economy seem to be just recovering from deflationary threats.
With trimmed mean PCE inflation hovering below 2% for last three years, there might be little merit to rush in.
