Fed’s Daly says the economy can handle rate hikes, but a mild recession is possible

Mary Daly (President of the Federal Reserve Bank of San Francisco) poses following a speech about the U.S. economy in Idaho Falls on November 12, 2018.
Ann Saphir | Reuters

Mary Daly of San Francisco Federal Reserve admitted Wednesday that the economy could be plunged into recession if there are a series of increases in interest rates over the next few months, but she stressed that that’s not what she expects.

Response to worst inflation the U.S. has seen in more than 40 years, the central bank official said she foresees “an expeditious march” through the year toward benchmark interest rates that would neither stimulate nor repress growth — the “neutral” rate, in Fed parlance.

“Accounting the risks of being either too fast or too slowly, I consider an expeditious march towards neutral by the end the year to be a prudent course,” she stated.

Daly claimed that these moves will help to slow down the overheated economic system, in which consumer price inflation is at 8.5% per year.

She cited research from Princeton economist and former Fed vice chair Alan Blinder, who asserted that in 11 previous Fed hiking cycles, seven “were followed by a mild recession or none at all — basically a smooth landing,” she said in remarks at the University of Nevada Las Vegas. Now, as I am in Las Vegas I can tell you that those are very good odds.

Later, Daly answered if mild recession was equivalent to soft landing.

This would likely mean that there is a very shallow recession. It’s not like the 2008 financial crisis or the days of stagflation in the late 1970s/early ’80s when Paul Volcker, then-Chairman, jack up interest rates to the point where the economy plunged into double-dip recession.

Wall Street analysts see rising recession risk. Deutsche Bank just recently reported it sees a near-certainty of negative growthGoldman Sachs stated about a 35% chanceIn the coming two years.

Daly responded to a CNBC interview by saying that although recession is one term, it can refer to many outcomes. You can get it down to zero for a couple quarters. This is a different beast from something like the Volcker disinflation or financial crisis.

She added, “That’s certainly not something that I forecast or anything I feel would prevent the long-term growth.”

The market expects that the Fed will enact an aggressive series of interest rate increases between now and the close of the year, according to current expectations. After a 25-basis point (or quarter percentage point) increase in March, there is an expectation of a series 50-basis-point moves followed by a slowdown, which will raise the benchmark fed funds rates to around 2.5% by year’s end. CME Group data.

Charles Evans, Chicago Fed President said earlier in the day that he was open to 50 basis points increases to help frontload it a bit. James Bullard of St. Louis Fed stated Monday that he wants to accelerate and believes that 75 basis points would be appropriate next month. But traders believe this is unlikely.

Daly, for her part, said that she does not want the Fed to accelerate too fast as it could threaten the recovery of the pandemic-era, which was strong despite the historical inflation move.

She stated that if we slow down by removing all accommodation slowly and regularly reviewing how much is required, there are good chances of smooth transition and the economic system moving to its long-term sustainable path.

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