The Federal Reserve is seriously weighing a June rate hike, says John Williams, president of the San Francisco Fed.
“We’re going to get a lot more data between now and our June meeting,” Williams told Yahoo Finance. “I do view June as a live meeting, in the sense that we are seriously considering at that meeting whether we should have the next rate hike. But it will depend also on the conversations we have in the meeting room itself.”
Despite a lackluster first quarter GDP report and weaker-than-expected new payrolls in April, Williams believes the US economy is gaining strength.
"I think the economy could withstand a rate hike," Williams said. "A 25 basis point increase in short term interest rates alone doesn't have that big of an impact on the economy. In terms of whether we should do that, I think it's a balancing act."
With unemployment hovering around 5% and inflation slowly increasing, Williams sees the economy heading in the right direction, noting that the 160,000 jobs added in April are well above the 80,000 jobs per month he believes is needed for employment growth. “We don't need to see 200,000 jobs a month to think things are good,” he said.
Meanwhile, inflation has run below the Fed’s 2% target for four years, but it has started to strengthen in recent months. The personal consumption expenditures index, the Fed’s preferred measure of price inflation, rose 0.8% in March year-over-year as core inflation increased 1.6%.
If the economy continues on this path, Williams says investors should be prepared for three to four rate hikes next year, with rates eventually normalizing in two years. Williams sees the benchmark rate climbing to 3% to 3.25%, well below the historical average of 5.5%.
However, those increases are predicated on a stable, growing economy–– without the market turmoil that characterized January and February. But don’t blame the Fed for that volatility, said Williams.
“Maybe you'll call me defensive. I do think that after we did finally raise rates–– after seven years in December–– we didn't actually see the turmoil then," said Williams. “There are international developments. Concerns about China and emerging market countries did come up earlier this year. The good news is that since the August turmoil of last year, things have calmed down quite a bit.”
The Federal Reserve is seriously weighing a June rate hike, says John Williams, president of the San Francisco Fed.
We sat down with John Williams to discuss the health of the US economy and the path of Fed rate hikes. Below is an edited section of our interview; the video interview is above.
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ANDY SERWER: So just between you and me, is the Fed going to raise rates in June?
JOHN WILLIAMS: It depends. We're in a data-dependent mode, as you have heard a million times. And we're going to get a lot more data between now and our June meeting, a lot of data on the US economy, obviously get a better read also on global developments. And I do view June as a live meeting, in the sense that we're obviously seriously considering at that meeting whether we should have the next rate hike.
But it will depend also on the conversations we have in the meeting room itself. We listen to each other. We share our own analysis, our own things we're hearing from out in the districts. And we come to a decision on that at that meting.
ANDY SERWER: What about your personal take, John? Two things-- one, could the economy withstand a rate hike? Should there be a rate hike?
JOHN WILLIAMS: Sure. So I think the economy could withstand a rate hike, 25 basis point increase in short-term interest rates alone doesn't have that big of an impact on the economy. In terms of whether we should do that, I think it's a balancing act. We've been going through this, I think, basically for the last year. Monetary policy takes a year or to really work itself through the economy. So we have to be forward-looking and thinking about where the economy will be in the future.
And I think there things are looking good. Unemployment is 5%. Inflation trends are moving in the right direction. But there's a lot of uncertainty, a lot of issues about international developments and how they then affect the US economy. So we're going to have to balance what I think of as pretty good news on the US economy against some of the uncertainties about what's happening around the world and how that affects our ability to achieve our goals.
ANDY SERWER: Let's talk a little bit about inflation, because as we move towards full employment, obviously that becomes a risk. Is that something that's really factored in, and are you concerned about that right now?
JOHN WILLIAMS: A couple years ago, some of the people said the Fed talks too much about unemployment. And the reason we did was because unemployment was high. It was our biggest challenge from a monetary policy point of view. Now that unemployment is basically at or pretty close to most people's views of full employment, inflation is the remaining issue that we're grappling with.
Inflation is running below our 2% target for around four years now, and it is a concern. We want to see and I want to see inflation move back to 2%. I want us to see it get there, and I hope to see that in the next year or two. But that is the thing that we're most focused on.
There's a lot of disinflationary forces from around the world-- the strong dollar obviously, but weak inflation in other countries that have been holding US inflation down. My own view is that with a strong US economy and with the dollar stabilizing and oil prices stabilizing, the inflation trend should be moving back to 2% in the next year or two. But that's definitely where my focus is.
ANDY SERWER: So lack of inflation is the concern, not inflation itself. Let's talk about employment. I know you're pretty bullish on that picture right now. Even though we had a mixed report recently, I know you've said that you consider this to be more or less full employment. Is it reasonable to expect, though, job reports of 200,000 at this point going forward?
JOHN WILLIAMS: I think this is something that people have to start thinking about, is what's normal for the labor market. And given the demographics of our workforce and the trends there, I think getting about 80,000 jobs a month would be a normal rate of job growth. We've been getting over 200,000 last couple years a month on average. And this year, we're running around that number. So we don't need to see 200,000 jobs a month to think things are good.
But I do want to see job growth to be solid. I do look to see over 2 million jobs added this year on average. The thing about monetary policymakers, you don't want to get caught up in one months of data or two months of data. Sometimes the data come in really strong, gets revised down. Sometimes it comes in a little weak and it's just the ups and downs of this. So it's really important to stay calm through the ups and downs of the dataflow.
ANDY SERWER: Along similar lines, Q1, we're going to get another read on GDP, or is that largely being discounted at this point?
JOHN WILLIAMS: Well, the Q1, the first three we got was pretty anemic. Now, my own staff in the San Francisco Fed and other economists have highlighted that there is some anomalous factors in the Q1 data, especially around seasonal adjustment. So I think the data was given a little overly pessimistic view of underlying growth. But I am looking for Q2 to look better. And so I'm looking for solid growth of at least 2% in the second quarter.
It's one of the things I'm looking for when I think about, are the data consistent with my forecast of about 2% growth for the year?
ANDY SERWER: That's pretty optimistic, right?
JOHN WILLIAMS: Well, that's what we got last year. We got close to 2% growth last year. We added 2 and 3/4 million jobs last year. I don't think we'll have that many jobs this year given where we are. But still, I think the US economy is actually in very good shape, despite the significant headwinds we're experiencing from abroad.
ANDY SERWER: What are the biggest risks you see to the economy, John?
JOHN WILLIAMS: Well there's some near-term risks, like Brexit in terms of Britain leaving-- the vote they're going to have in late June possibly to leave the European Union. That's something that obviously would have big impact on European economies. It would spill over into global financial markets. So that's one of the very neat-term risks. China's continuing process of pivoting from an export, manufacturing-driven economy to more of a consumer and services-driven economy is something we're watching carefully and how again that feeds back on global economic developments and back onto our shores.
So those are near-term, next year, or in some case, next few months concerns that I have. Longer term, I am concerned by the fact that with many countries really struggling outside the US, we're getting inflation back to their goals. Europe and Japan have gone to negative interest rates and QE. So I think that's kind of an ongoing challenge in the global environment that we're seeing in central banks again, their economy is back on track.
ANDY SERWER: Now, it's interesting to me-- all those risks you just mentioned were externals, outside the United States. And this is an ongoing question-- how much focus should the Fed have on developments outside the United States?
JOHN WILLIAMS: Well, it's a great question, because it sounds like I'm worrying about the rest of the world because I'm trying to be the central banker of the world. And that's not the case. Our goals are domestic goals-- domestic employment, domestic inflation. And I think about global developments in terms of our ability to achieve maximum employment in 2% inflation. So it's really thinking about, how does the external environment, whether it's Europe or Asia or South America, what have you, how does that feed back onto the US economy and how does it inform what our policy decisions are. In the end, policy decisions are about achieving US domestic goals.
ANDY SERWER: And what about equity prices in the United States?
JOHN WILLIAMS: Well, my view there is we want to look at all the financial conditions, whether it's equity markets, stock markets, bond markets, other markets in trying to discern basically what's the overall underlying strength or factors affecting the economic outlook, and then again, how does that feed into where the economy is and where our policy should be. One of the things I think is important to remember, very low interest rates have been boosting asset prices in the US and around the world for years now.
And so the normalization of monetary policy also, I think, means some process of normalization of asset prices. So that's an area where we're clearly watching what's happening in real estate markets and other asset markets to see, how do they adjust to a somewhat higher interest rate environment.
ANDY SERWER: And critics like General Wesley Clark have described this low interest rate environment as benefiting what he calls the shareholder class, at the expense of other Americans. Do you think he's on target there?
JOHN WILLIAMS: I think-- a couple comments on that. First of all, the goal of monetary policy, especially for the last six, seven years is to get America back to work. We had 10% unemployment. Basically achieved full employment. Low interest rates got people back to work. That helps their pocketbooks. It helps them afford to live. So I think that from an income inequality issue, it's really helping a lot of regular folks be able to afford living.
Now, in terms of longer-run goals, monetary policy only is a very limited or blunt tool. Our goals are to achieve maximum employment and price stability, as I said. So we're driven by that. And as the economy gets back fully on track, we're going to move interest rates back to more normal levels. So in the end, I think that income inequality or more of these issues that you raise are things that really are happening outside the realm of monetary policy. Or monetary policy affects it on the edges, but really isn't an important driving influence.
ANDY SERWER: In a recent speech in Sacramento, where you're from, you talked about the tech boom this time around not enhancing productivity as much as some people might have anticipated, because these developments were more about leisure. And I guess you were talking about companies-- not specifically, but entities like Yelp and Snapchat and Facebook. Are these companies not particularly helpful to the economy then?
JOHN WILLIAMS: It's not a judgment about whether they're help for the economy or they're good or bad. It's just trying to understand how come we've seen a slowdown in productivity growth at the same time there's been this amazing wave of innovation-- new ideas, new products-- that we all experience? And that gets you back to how economists measure productivity. That's the amount of output per unit of labor that's happening at places that we work.
One way to put it is a lot of these new innovations really are about how much consumers enjoy the information they can get, the amazing things that cats can do that we didn't fully appreciate before. That's actually good stuff. It's just not measured in the output per hour statistics the economists focus on. Now, one of the things I'll just say is this isn't just about measurement, though.
Somehow the sensations aren't getting the data right or somebody analyzing it right. It's really the case that because it's not affecting the productivity among employers. That seems to be very real. This is not a question of mismeasurement. It's really more a question of the fact that it's not-- the new innovations are not fundamentally transforming what we produce or how we produce it.
I have to add one last word, "yet." We don't know what the future will hold. We're not good at forecasting long-running productivity trends. But so far, we haven't seen that transformative element of the new innovation that we saw back in the early part of the 20th century or we even saw during the late '90s with computers and the internet.
ANDY SERWER: Looking backward just a little bit, do you think that the market turmoil in January and February was connected to the rate hike in December?
JOHN WILLIAMS: Well, you're asking me that, so I'm going to say no. Somebody else-- maybe you'll call me defensive. I do think that after we did finally raise rates after seven years in December last year, we didn't actually see the turmoil then. There are international developments, concerns about China, concerns in emerging market countries more generally that did come up early this year.
The good news there is like the August turmoil of last year, things have calmed down quite a bit. And I see markets conditions as being pretty calm and there doesn't seem to be a lot of concern about either what the Fed's going to do or about global developments more generally.
ANDY SERWER: Usually the Fed raises rates into a stronger economy. How is this cycle different from other cycles?
JOHN WILLIAMS: Well, I think one thing that I think is we're trying to get it right. If you go back in history of the Fed, I'm thinking back to the '60s and '70s, often waited around a little bit too long to start the tightening cycle when inflation had already taken off. And then they have to raise rates rapidly, cause the economy to stall, and then have to cut rates. And that was called the stop-go policy. I'm thinking again going back decades ago.
So one of the things we're trying to do, in my view, is be very forward-looking and think about, hey, although inflation is not quite our goal, interest rates are very low and it's time to take your foot off the gas very gradually over the next few years so that we can get this smooth landing without the back and forth of rates tightening and then having to let off. We don't want to see our policy tightening create conditions that might cause a recession.
ANDY SERWER: Is this more difficult though, John, given that some countries are easing while we're looking to tighten?
JOHN WILLIAMS: Well, economists have looked at that. And it's not really the case that all the countries around the globe in the past have moved together. This is not atypical, that certain major economies are going one direction while the US is going the other. So it does obviously create interactions in a global economy that we have to be cognizant of and study to the extent that the European Central Bank takes policy actions in response to their economic conditions that feeds back on the US. So we have to take all that into account.
But I don't think it makes it fundamentally more difficult. I do think that the fact that globally, inflation is so low, and that does feed into the US economy-- it's one of the major factors why even though the economy has done better, we still haven't seen much inflation.
ANDY SERWER: Could we see three to four rate hikes in 2017?
JOHN WILLIAMS: In 2017, to be precise on this? I think that's possible. I mean, who knows what we'll be doing, what we'll see in terms of data and other information between now and then. Right now, interest rates are incredibly low. We need to eventually, I think, get back to something like 3 or 3 and 1/4 percent for a normal rate at the end. And I think that based on my own view, doing that gradually over the next few years probably makes se
