Wall Street’s reaction to Tuesday’s consumer price index (CPI) shows investors are realizing inflation is likely to remain higher than the Federal Reserve’s two percent target for longer. Two heavyweight market voices have argued that the 2% target is part of the problem.
Kenneth Rogoff, a professor at Harvard University and former Fed economist, expressed to Bloomberg Television on Tuesday that “in the past, they should have stated 3 percent instead of 2 percent.” “If you change it, it means you might change it again. Inflation, they’re going to allow to be elevated for longer, but they’re going to say it’s going to get back to 2 percent, it’s just taking longer. That will be the rhetoric.”
The Fed could raise rates up to 7%, but the Fed funds rate would still be much higher than where it is now, Dominique Dwor-Frecaut, senior macro strategist at Macro Hive, said. Starting in March, it is possible that policy makers will consider raising the terminal Fed funds rate by one or two more times, she stated. A resurgence of inflation in China as its economy reopens could lead to the Federal Reserve continuing to increase rates through the end of the year.
Forecasts in the market are predicting that the Federal Reserve will increase rates at least twice in the course of this year, however, predictions of a higher peak rate have increased following the release of the employment report for January. If the solid economy continues, some Federal Reserve officials this week have implied they could need to hike rates more than they initially anticipated.
Calling the Fed “too data dependent,” El-Erian said supply-side developments, including an energy transition, the change in supply chains during the Covid-19 pandemic, a tight labour market and shifting geopolitical issues, necessitate the higher target inflation rate.
He stated that it is important to consider data, but one must also have a vision of their desired outcome.
El-Erian, when asked on Friday if the Federal Reserve could be “tolerant” of increased inflation, expressed that this was something he “hoped to see”.
“If an inflation scare is temporary, the best way to deal with it is simply to wait it out (or, to use a policy and market term, ‘look through it').
0. “Is It Too Late to Fix the Low Inflation Target?” Treasury & Risk, 14 Feb. 2023, https://www.treasuryandrisk.com/2023/02/14/is-it-too-late-to-fix-low-inflation-target/
1. “Inflation has a 75% chance of rebounding or staying high, and the Fed could crush the economy in its attempt to fight it, Mohamed El-Erian says” Business Insider Africa, 9 Feb. 2023, https://africa.businessinsider.com/markets/inflation-has-a-75-chance-of-rebounding-or-staying-high-and-the-fed-could-crush-the/sb151gn
2. “Markets may see ‘shock' if the Fed raises rates to 8%, says strategist” Markets Insider, 15 Feb. 2023, https://markets.businessinsider.com/news/stocks/stock-market-bonds-shock-federal-reserve-interest-rates-inflation-fed-2023-2
3. “El-Erian: Fed Can’t Reach 2% Inflation Without Crushing Economy” ThinkAdvisor, 17 Feb. 2023, https://www.thinkadvisor.com/2023/02/17/el-erian-fed-cant-reach-2-inflation-without-crushing-economy/
4. “Fed can't reach 2% inflation without crushing economy, El-Erian says” The Edge Markets MY, 18 Feb. 2023, https://www.theedgemarkets.com/node/655803