I’m grateful to the Economic Club of New York for having me here today. This marks my first speech as a member of the Federal Reserve Board, and I want to share my views on monetary policy. Following last week’s Federal Open Market Committee (FOMC) meeting, I believe there’s a divergence in how we view the appropriate monetary stance. I think current policies are too restrictive and could hurt our employment goals.
Determining the right monetary policy is complex. While models like the Taylor rule provide guidance on where interest rates might go based on key economic indicators, I don’t think we should rely on them completely.
The Taylor rule considers three main factors for setting interest rates: inflation, neutral interest rates, and the output gap (essentially, the difference between actual and potential economic performance). While inflation and employment are usually prioritized, the neutral rate—indicating neither expansionary nor restrictive policy—often gets overlooked.
Some argue that we can ignore the neutral rate because it’s tricky to measure. However, similar metrics like potential growth and the natural unemployment rate are regularly discussed. Failing to update our perception of the neutral rate can lead to policy errors. This rate changes based on factors like demographics, productivity, and fiscal policy.
For example, recent trends point to a decline in immigration and changes in fiscal policies that might be pushing this neutral rate down. If we don’t acknowledge these shifts, we might misjudge the current policy’s restrictiveness.
Now, let’s talk about inflation. Housing costs are a significant driver of the inflation rate. Presently, housing accounts for about 16% of the personal consumption expenditures (PCE) index. While rent inflation has been high recently, I anticipate it will decrease as leases adjust to current market conditions, possibly reducing overall inflation in the coming years.
Research shows that immigration directly impacts rental prices. A study by Albert Saiz indicates that an increase in foreign tenants can raise rents significantly. If immigration drops, we might see rent inflation decline too.
Turning to neutral rates, changes in population growth from shifting immigration policies can also influence economic dynamics. As the U.S. adjusts its border policies, the annual growth rate can decrease, and this may lead to a lower neutral rate. Economists, like Etienne Gagnon, suggest that demographic shifts have already significantly impacted these rates since the 1980s.
Moreover, trade policies and tariff revenues can enhance national savings, further affecting the neutral rate. The Congressional Budget Office estimates that tariffs could reduce the budget deficit by over $380 billion in the coming years, which changes the balance of loanable funds.
On the regulatory front, many scholars believe that reduced regulations can stimulate economic growth. A paper by John Dawson and John Seater highlights how deregulation can lead to greater productivity. This increase can elevate the neutral rate, contributing to overall economic health.
Lastly, I want to touch on the output gap. Changes in tax policy can either close or widen this gap. The new tax cuts are likely to stimulate economic growth, leading to a potential increase in actual output.
In summary, adjusting our understanding of these economic indicators leads me to believe that the appropriate federal funds rate is lower than current levels—around 2% to 2.25%. If we keep interest rates too high, we risk greater unemployment and instability.
Thank you for this opportunity to share my thoughts. I’m ready to answer any questions.
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