US Market: Fed's Hammack warns against inflation becoming entrenched in economy

Federal Reserve Bank of Cleveland President Beth Hammack warned that persistently high inflation could lead Americans to become accustomed to elevated prices, increasing the risk of inflationary expectations becoming more deeply entrenched in the economy, Reuters reported.

Hammack said the Federal Reserve must ensure monetary policy remains restrictive enough to bring inflation back towards its 2% target. However, she stopped short of specifying what action she believes the central bank should take on interest rates during her latest appearance.

Read more:Global Market: Japan’s Nikkei slips after early gains as Nasdaq futures weaken

Inflation has remained above the Fed’s target for an extended period. The personal consumption expenditures (PCE) price index rose 3.7% in July from a year earlier, while underlying inflation also remained above the central bank’s goal.

The Fed raised its benchmark interest-rate target by a quarter percentage point earlier this month, taking it to a range of 3.75% to 4%. Policymakers have indicated that another increase could come before the end of the year, although financial markets have been pricing in further tightening.

Demand adding to inflation pressure

Hammack said inflationary pressures were not solely the result of temporary shocks, such as tariffs and higher energy costs linked to the war involving Iran. She also pointed to strong demand, supported by the resilience of the US economy and a stable labour market.

Hammack, who has a vote on the Federal Open Market Committee (FOMC) this year, believes monetary policy has not yet become sufficiently restrictive, Reuters reported.

She noted that interest rates were not currently discouraging investment for most businesses outside the housing sector. Companies continue to invest despite higher borrowing costs, reflecting the strength of economic activity.

However, Hammack cautioned that continued investment and robust demand could add to inflationary pressures, which policymakers need to monitor and address through monetary policy.

Read more: Global Market: KOSPI drops over 2% as Samsung, SK Hynix slide on yield concerns

Concern over inflation sentiment

While Hammack said longer-term inflation expectations appeared to remain anchored, she expressed concern about broader inflation sentiment among households and businesses.

Hammack questioned how a prolonged period of above-target inflation could affect the behaviour and decisions of Americans who have not experienced a sustained period of inflation near the Fed’s 2% target, Reuters reported.

She said businesses and households could gradually adjust their expectations and behaviour to accommodate higher prices, potentially creating a more persistent inflationary environment and complicating the Fed’s policy challenge.

Bond yields reflect more than inflation expectations

Hammack also discussed the recent rise in US government bond yields, saying it had been driven more by higher real interest rates than by a deterioration in inflation expectations.

She viewed inflation expectations as reasonably well anchored. Higher bond yields also reflected a solid economic outlook, increased competition for investment capital amid strong technology-sector spending, and changes in investor expectations about the future path of monetary policy, Reuters reported.

The comments underscore the challenge facing the Fed as it seeks to balance persistent inflation against an economy that continues to show resilience. Maintaining sufficiently restrictive monetary policy while avoiding an unnecessary slowdown in economic activity remains central to the debate over the future path of US interest rates.

(Disclaimer: Recommendations, suggestions, views and opinions expressed by experts are their own and do not represent the views of The Economic Times)
Add as a Reliable and Trusted News Source Add Now!
(You can now subscribe to our ETMarkets WhatsApp channel)