This content is part of a series called ‘Economists Exchange’. It features conversations between renowned economists and top FT commentators. The topic of discussion is the crucial situation facing the US central bank in its ongoing battle against high inflation. John Williams, the president of the New York Federal Reserve, is a key player in determining the next phase of the Fed’s monetary tightening campaign. With the benchmark interest rate already raised by 5 percentage points within a year, there is now a heated debate among Fed officials regarding further tightening measures amidst significant uncertainty. The unknowns include the pace at which inflation will decrease, the economic consequences of previous actions by the central bank, and the possibility of financial instability following recent turmoil in the banking sector.
In order to assess these factors, the Fed recently adopted a more patient approach, choosing not to raise its benchmark rate after 10 consecutive increases. However, it is now anticipated that the rate hikes will resume at the end of the month during the policy meeting. The focus will be on determining the borrowing costs that are “sufficiently restrictive” to ensure a timely decrease in inflation to the target of 2%.
As a permanent voting member on the policy-setting Federal Open Market Committee and a trusted ally of Chair Jay Powell, John Williams has already acknowledged that the Fed has more work to do in terms of raising interest rates. In this conversation, he discusses how he will determine when the Fed has done enough and the potential challenges associated with reducing inflation.
Colby Smith initiates the discussion by highlighting the solid job gains in June, albeit at a slower pace, and steady unemployment. He asks whether this report provides a sense of relief or if there are still concerns. John Williams responds by emphasizing that it is not just about one report but rather the overall data. He notes that the report is consistent with previous findings, indicating a gradual reduction in labor market imbalances and a closer alignment of supply and demand. While the labor market remains strong with positive job growth, there are signs of a slowdown in demand for labor. Williams refers to non-government or private job growth, which was lower than expected, and emphasizes the importance of considering all indicators that point towards a labor market moving in the right direction.
Smith then raises the possibility of labor hoarding and its impact on the current situation. Williams explains that during a period of strong labor demand, employers would extend work hours to meet the demand. However, the workweek has now returned to normal levels, which suggests a better balance between supply and demand. While there is speculation about employers holding on to unnecessary employees due to the difficulty of finding replacements, Williams believes it is not a major factor. He also notes that the increase in labor force participation has contributed to improved supply but questions whether there is room for significant additional growth in this area. He mentions that labor force participation among the 25-to-54-year-old group could increase slightly, but the aging population limits further expansion. Williams concludes by highlighting the importance of immigration in contributing to labor force growth and restoring balance to the economy.
Smith then asks how Williams’ thinking on the relationship between the unemployment rate and inflation has evolved. Williams acknowledges the ongoing debate on this matter and introduces the concept of the Beveridge curve, which shows the relationship between job openings and unemployment. He explains that the movement so far has been primarily down the curve, indicating a reduction in job openings without a significant increase in unemployment. Williams sees this as a positive sign of excess demand for labor. However, to achieve the 2% inflation target, he believes it will be necessary to further reduce the demand for labor and increase unemployment. He expresses hope that factors such as decreasing oil and gas prices, as well as relaxation of supply chain bottlenecks, will contribute to reducing inflation without the need for significant labor market slack. Williams concludes by stating that his own forecasts suggest a gradual decrease in unemployment as part of the overall strategy to achieve the inflation target.
Overall, this conversation provides valuable insights into the current state of the US economy, the challenges faced by the central bank in controlling inflation, and the potential strategies for achieving the target. It highlights the importance of considering various indicators and factors when making decisions and forecasts regarding monetary policy.
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