The Federal Reserve may need to pivot to a faster tapering of its bond purchase program based, in part, on high inflation readings, said Fed Governor Christopher Waller on Friday.
In a speech to the Center for Financial Stability, Waller described the high inflation seen this year as a “big snowfall that will stay on the ground for a while” rather than a one-inch dusting.
“When snow is expected to be on the ground for a week, you may want to act sooner and shovel the sidewalks and plow the streets,” Waller said.
“To me, the inflation data are starting to look more like a big snowfall that will stay on the ground for a while, and that development is affecting my expectations of the level of monetary accommodation that is needed going forward,” he said.
The Fed is buying $105 billion of assets in November, and is slowing down the purchases at a $15 billion per-month pace. This will end the program in June.
Waller said recent strong job market data and the deteriorating inflation data “have pushed metowards favoring a faster pace of tapering and a more rapid removal of accommodation in 2022.”
Fed officials are split on the road ahead for policy. Some Fed officials, like Waller, may want the tapering to end in the first quarter. Others want the central bank to be patient and wait for the tapering to end in June before making further policy moves.
Adding to the uncertainty is the fact that President Joe Biden hasn’t selected the next Fed chairman yet. Markets think the president will select current Fed Chairman Jerome Powell for a second-term, but doubts are swirling as the announcement has not been forthcoming. Biden will also be able to fill as many as four more slots at the central bank’s seven-member board of governors.
The Fed has set three conditions for raising its policy short-term interest rates, which are now close to zero. First, inflation needs to be around 2% and on track to moderately exceed 2% for some time after tracking below that level for some time in recent years. In addition, the labor market must have reached “maximum employment.”
Waller said the condition for inflation has been met and the economy is making great strides towards achieving the employment leg of the mandate.
The pace of inflation over the past year marched to 6.2% in October from 5.4% in the prior month. That’s more than triple the Federal Reserve’s 2% target and is the highest rate since November 1990.
Even when the Fed decides to raise short-term interest rates, monetary policy will not be neutral, he noted.
Waller said the Fed also needs to consider when to begin the reduce the securities holdings on the Fed’s balance sheet.
Since March 2020, the Fed’s securities holdings have increased by $4.2 trillion to stand a bit over $8 trillion, about 35% or the level of annual real GDP.
Waller said draining some of this liquidity would help maintain “smooth market functioning.”
The yield on the 10-year Treasury note TMUBMUSD10Y, 1.548% slipped below 1.53% on Friday, it’s lowest level in more than a week, on fresh worries about a spike in COVID cases might slow the European economy.