After years of extra-low interest rates helping stimulate the economy, the Federal Reserve should continue increasing rates and at some point reach a "modestly" restrictive level, Fed Governor Lael Brainard said May 31.
Brainard said she still thinks the Fed's gradual increases in the federal funds rate remain appropriate, though she said she "will remain vigilant for the emergence of risks and prepared to adjust if conditions change."
There are several risks on the horizon, including ongoing uncertainty over trade negotiations that "could prove disruptive at home and abroad," Brainard said. The Trump administration, for example, decided May 31 to impose steel and aluminum tariffs on Canada, Mexico and the European Union, declining to continue with a temporary exemption on the tariffs for all three.
Recent headlines out of Italy and other countries also "suggest some risk to the downside," she said. Political uncertainty in Italy has damaged prospects for banks in Italy and helped lead to a U.S. stock market downturn May 29, though the worries have eased since. Meanwhile, a strengthening dollar and rising U.S. interest rates have led to concerns for some emerging markets, particularly in Turkey and Argentina, where policymakers have taken aggressive actions to prevent even larger currency devaluations.
"Although stresses have been contained to a few vulnerable countries so far, the risk of a broader pullback bears watching," Brainard said in prepared remarks.
But overall, Brainard said, U.S. GDP figures should pick up substantially over the next few quarters after seeing a weaker first quarter. A strong labor market, high consumer confidence levels and continued increases in business investments should help provide a lift, while the "sizable fiscal stimulus that is in train" from U.S. tax cuts and a rise in federal spending will also boost the economy later this year and next.
Brainard spoke hours after new data again showed that inflation figures were much closer to the Fed's 2% target than they had been in recent months. The core personal consumption expenditures index, which excludes food and energy, rose 1.8% year over year in April, unchanged from the downward-revised figure from March.
Fed officials have avoided declaring victory on their inflation mandate, though they have begun saying they are comfortable slightly overshooting the 2% target. Brainard stuck to that approach in her speech, saying the Fed "will want to see inflation coming in around target on a sustained basis after seven years of below-target readings."
She also weighed in on whether a flatter yield curve is sending a warning signal that the Fed may be raising rates too quickly, as some analysts and Fed officials have flagged. Brainard said that while the Fed will keep a "close watch" on whether the flattening is showing tighter financial conditions, it is "just one among several important indicators" that she follows.
