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Fed officials signal optimism in US economy, reiterate rates likely on hold

Federal Reserve officials displayed some cautious optimism Jan. 9 about the U.S. economy's prospects, showing no rush to change interest rates again after their three rate cuts in 2019.

The Fed's actions to cushion the economy from weaker global growth were "well timed" and have helped keep the U.S. economic outlook on track, Fed Vice Chairman Richard Clarida said in a speech at the Council on Foreign Relations. There are now "some indications that headwinds to global growth may be beginning to abate."

"I believe that monetary policy is in a good place and should continue to support sustained growth, a strong labor market, and inflation running close to our symmetric 2% objective," Clarida said. "As long as incoming information about the economy remains broadly consistent with this outlook, the current stance of monetary policy likely will remain appropriate."

Several of Clarida's colleagues on the rate-setting Federal Open Market Committee, which meets again Jan. 28-29, appeared to share that assessment.

The Fed's easing of monetary policy has significantly reduced risks of a recession, and continued modest economic growth should lead to improvement in the labor market along with wage upticks that will help bolster consumer spending, Minneapolis Fed President Neel Kashkari said in an interview with FOX Business.

A pause in rate changes puts the Fed in a "much better position" for inflation to return to the central bank's 2% target, added Kashkari, who is one of the FOMC's more dovish members and is rotating into a voting spot this year.

"Right now, I'd say pause for the foreseeable future, the next six months, next year, but it will depend," Kashkari said, arguing that a weaker inflation outlook could warrant additional Fed easing.

Dallas Fed President Robert Kaplan, who will also vote on the FOMC this year, told Reuters that the central bank's easing in 2019 put rates at a "roughly appropriate setting."

And St. Louis Fed President James Bullard said the current outlook suggests there is a "reasonable chance" that the U.S. economy will achieve a so-called soft landing in which the economy decelerates toward its longer-run trend but avoids a sharp drop-off. That outlook is partly due to the fact that the Fed made a major shift away from projecting rate hikes for 2019 toward actually cutting rates three times, Bullard said at a Wisconsin Bankers Association annual forecast luncheon.

"We should wait and see what the effects [of the rate cuts] are in the first half of 2020 and beyond that," Bullard told reporters after the event.

Muted inflation outlook draws concerns

The comments from Fed officials illustrate a broad consensus that their 2019 rate cuts were likely enough to protect against weaker global growth and trade tensions, but policymakers expressed concern over low inflation readings.

The Fed's preferred inflation gauge, the personal consumption expenditures index excluding food and energy prices, rose by 1.6% year over year in November and remains below the Fed's 2% target.

Clarida said the Fed is projecting that inflation will "rise gradually" toward the 2% goal, adding that officials see no evidence that a tighter labor market is "putting excessive" pressure on prices. Still, he added, policymakers generally believe risks to the inflation outlook are tilted to the downside.

He noted that inflation expectations, which play a critical role in determining future inflation, have "moved lower and reside at the low end of a range I consider consistent with our price-stability mandate." The 10-year breakeven inflation rate, a gauge that measures bond markets' expectations of average inflation over the next 10 years, remains below 2%, clocking in at 1.75% as of Jan. 8. That reading, though, is up from its recent low of 1.48% on Oct. 8, 2019.

Subdued inflation readings are a major reason behind the Fed's monthslong review of its monetary policy framework, given that low inflation helps reduce the amount of interest rate cuts that the Fed and other central banks have at their disposal to combat a downturn. As part of that review, the Fed is considering a switch to strategies that let inflation run above 2% for some time to make up for past misses below that target.

New York Fed President John Williams, who has favored exploring such approaches, said in a speech that declining inflation expectations and longer-run growth trends over the past few decades are "clear indicators of what's to come."

"If inflation continues to underrun target levels similar to the past six years, the downward trend in inflation expectations will likely continue," Williams said at a Bank of England event focused on central banks' inflation targeting strategies.

"But there is still time to avert this fate," he added. "In this case, it's fortunate that the young are impressionable. If inflation is sustained at target levels consistently, a further downward trend in expectations can be forestalled."