Central Bankers Still Not Signaling All-Clear on Inflation

• Fed doves and hawks both see need for more rate increases to rein in prices
• ECB policymakers also see more hikes ahead as countries aid consumers
• Former Bundesbank head Weidmann may be in line for top job at IMF

Pick a number—guess where U.S. inflation will be in a year.

John Williams, president of the New York Federal Reserve Bank and vice chairman of the policy-setting Federal Open Market Committee, says U.S. inflation will still be at 3% a year from now. 

As measured by the personal consumption expenditures index, inflation could slow from 6.2% in September to somewhere between 5 and 5.5% by the end of the year, but remain high most of next year, he said Monday at the Economic Club of New York.

Economist Mohamed El-Erian, who has been warning about persistent inflation for more than a year, says the inflation rate could get stuck at around 4% as continued supply chain disruptions due to a shift away from globalization keep the rate high. This shift is not “temporary or quickly reversible,” he says.

Surveys of consumer expectations for inflation are not any lower, hovering around 3% in three or five years. 

Minutes from the FOMC meeting at the beginning of November, released last week, confirmed market expectations that the Fed will slow the pace of rate hikes, moving probably to a half-percentage point increase on the fed funds target from the three-quarters point hike at the last four meetings.

However, analysts expect Fed Chairman Jerome Powell to give markets a reality check when he speaks at the Brookings Institution on Wednesday. Much like he did at the Jackson Hole symposium in August, he is likely to caution investors riding a stock market rally that there is still work to do.

In fact, Williams used exactly those words in his Monday speech:

“But there is still more work to do.”

And he tends to be dovish.

The more hawkish head of the Cleveland Fed, Loretta Mester, told the Financial Times on Monday that she thinks it’s better to err on the side of caution. “Given where we are in terms of inflation readings, the outlook and the risks, I still put more weight on a higher risk or a higher cost of not doing enough,” she said in an interview.

Hawks at the European Central Bank are also speaking up, as investors expect the Eurozone central bank to moderate its rate increases and not repeat its most recent two “jumbo” hikes of 75 basis points at the meeting next month.

Isabel Schnabel, a German member of the executive board, says the ECB governing council has limited room to slow its rate increases because Europe’s planned government aid to households to defray energy costs will keep inflation high.

“In the current environment, there is a risk that monetary and fiscal policies may pull in opposite directions, leading to a suboptimal policy mix,” she cautioned in a London speech on Thursday. Adding:

“Many fiscal measures that are popular among the electorate, such as tight price caps or broad-based subsidies, risk fueling medium-term inflation further, which could ultimately force monetary policy to raise interest rates beyond the level that would be seen as appropriate without fiscal stimulus.”

Klaas Knot, the head of the Dutch central bank who is often rated as the most hawkish policymaker on the ECB governing council, called concerns that the ECB risked over-tightening “a bit of a joke.”

Recession is not a foregone conclusion, he said in Paris, but the ECB must make sure growth slows.

“To bring inflation back to target we will need a protracted period of time at which at least growth is below potential because otherwise we will never get the disinflation going. My worry is still inflation, inflation, inflation.”

Speaking of hawks, the former head of Germany’s central bank, Jens Weidmann, is likely to be Berlin’s nominee to head the International Monetary Fund and Germany considers its turn at the IMF has come. Weidmann, who often advocated for restrictive policies at the ECB, stepped down from the Bundesbank last year and recently was named supervisory board chairman for Commerzbank.

The current IMF managing director, Kristalina Georgieva, isn’t due to go until October 2024, but it seems certain she won’t get a second term and the elaborate game of musical chairs to choose her successor has already begun.