Federal Reserve Governor Christopher Waller acknowledged Tuesday that rate cuts are likely this year but said the central bank could take time to ease monetary policy.
The comments, delivered during a speech in Washington, DC, appeared to counter market expectations for aggressive easing this year.
'As long as inflation doesn't return and remains high, I think it will [Federal Open Market Committee] will be able to lower the target range for the federal funds rate this year,” Waller said in prepared remarks to an audience at the Brookings Institution.
“When the time comes to start cutting rates, I believe they can and should be cut methodically and carefully,” he added. “In many previous cycles… interest rates were cut reactively, quickly and often by large amounts. This cycle, however… I see no reason to move as quickly or cut as quickly as in the past.”
Market prices on Tuesday morning indicated a roughly 71% chance that the FOMC will begin spending cuts in March, according to CME Group's FedWatch measure. In fact, traders have further boosted expectations for 2024 and added another cut this week, bringing the projected total to seven quarter percentage points by year's end.
In addition to rate cuts, Waller expects the Fed could slow the pace of “quantitative tightening,” or shrinking the central bank's balance sheet, this year by draining proceeds from maturing bonds without reinvesting them. The Fed has authorized up to $95 billion per month and has reduced its holdings by about $1.2 trillion so far.
“I would say sometime this year it would be reasonable to start thinking about it,” he said. However, he noted that the tapering would apply to government bonds and not mortgage-backed securities, which he would prefer to decline at the current rate.
Data 'almost as good as it gets'
At their December meeting, Fed officials indicated that three cuts are likely this year. The Fed Funds rate is currently within a target range of 5.25% to 5.5%.
In arguing for interest rate cuts, Waller noted that the progress made in the fight against inflation has not come at the expense of the labor market. As governor, Waller is a permanent FOMC voter.
Stock prices were in sharply negative territory after the publication of Waller's comments, while government bond yields rose.
While 12-month inflation is still well above the Fed's 2% target, measures taken over a shorter time frame, such as six months, are much closer to the target. For example, the main price index for personal consumption expenditures, one of the Fed's favorite measures, shows an annual inflation rate of 3.2%, while the six-month measure is around 1.9%.
At the same time, unemployment has remained below 4% and gross domestic product has grown at a rate that exceeds Wall Street's expectations for a recession.
“For a macroeconomist, this is almost the best possible. But will this last?” Waller said. “Time will tell whether inflation can be sustained on its recent path and allow us to conclude that we have achieved the FOMC's price stability objective. Time will tell whether this can happen while the labor market is still performing above expectations.”
While the Fed has grappled with the dilemma of not tightening enough and allowing inflation to rise too much and tightening too much so that it slows growth, Waller says these risks are becoming more balanced.
In fact, he said that as the number of job openings declines relative to the size of the labor force, the Fed now faces greater risk of doing too much.
“So from now on, the policy should be set with more caution to avoid the policy becoming too tight,” he said.
Waller said he thinks the Fed is “within striking distance” of reaching its 2% inflation target, “but I will need more information” before declaring victory. One data point he said he will pay particular attention to is the upcoming revisions to the Department of Labor's Consumer Price Index inflation measure.