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Fed’s Mester Sees Rates Slightly Higher This Year — 2nd Update

The president of the Federal Reserve Bank of Cleveland said Tuesday that interest rates will likely rise slightly this year, assuming the economy grows at the healthy clip she anticipates.

“If the economy performs along the lines that I’ve outlined as most likely, the fed-funds rate may need to move a bit higher than current levels,” said Cleveland Fed President Loretta Mester in a speech at the University of Delaware, referring to the central bank’s benchmark policy rate.

Ms. Mester, who isn’t a voting member of the rate-setting Federal Open Market Committee, said she estimates a “neutral” rate that neither stimulates nor spurs economic growth to be around 3%. The fed-funds rate is currently set in a range between 2.25% and 2.5%.

“A couple more rate increases get you more into the range of neutral and then we just have to wait and see how the economy plays out,” Ms. Mester told reporters after the event.

She said the Fed’s next rate move was likely “a little bit later this year.”

Ms. Mester painted 2019 as a transition year for both the U.S. economy and monetary policy.

The economy, which likely expanded close to 3% in 2018 thanks to recent tax cuts and spending increases, should slow to a more sustainable pace of growth this year.

Ms. Mester said she fully supported the Federal Reserve’s current “wait-and-see” approach to rate increases after lifting borrowing costs four times in quarter-percentage-point increments in 2018.

“In my view, the most likely case is that this year, the economy will transition from above-trend growth to a somewhat slower pace,” Ms. Mester said.

She noted she expects the economy to grow between 2% and 2.5% in 2019, the unemployment rate to remain “at or below 4%” and inflation to hover near 2%.

While U.S. economic fundamentals “remain sound,” Ms. Mester highlighted “some crosscurrents and headwinds.” Weakening confidence, recent financial market volatility, slowing growth in China and Europe and uncertainty surrounding Brexit and U.S. trade policy all present risks to the outlook, she said.

“If some of the downside risks to the forecast manifest themselves, and the economy turns out to be weaker than expected and jeopardizes our dual-mandate goals, I will need to adjust my outlook and policy views,” Ms. Mester said.

With interest rates currently at the lower end of central bankers’ estimates for where they will end up, the Fed has time to observe the economy’s performance before making its next move.

“Monetary policy does not appear to be far behind or ahead of the curve, ” Ms. Mester said. “This environment gives us the opportunity to continue to gather information on the economy and assess our medium-run forecast and the risks around that forecast, before making any further adjustments in the policy rate.”

Among the indicators the Fed will be watching are official statistics, financial-market indicators, surveys on sentiment and anecdotal reports from business contacts.

Ms. Mester singled out the unemployment rate as an important bellwether, given the historical link between low joblessness and inflation. If the rate falls “appreciably” below 4%, she said, the Fed may have to raise rates more than otherwise.

The central banker said she also expects the Fed to complete its plans for reducing its holdings of bonds and mortgage-backed securities “at coming meetings.”

The Fed currently allows up to $30 billion of Treasury debt and up to $20 billion of mortgage-backed securities to roll off its balance sheet each month.

Ms. Mester said her preference would be for the Fed to stop that runoff by the end of this year, depending on the economy’s performance.
Source: Dow Jones

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