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Bloomberg Radio Announcer
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Michael McKee
News welcome to over open interest on Bloomberg TV and Bloomberg as intelligence on Bloomberg Radio to our viewers and listeners around the world. I'm Michael McKee, International Economics and policy correspondent and joining me this morning is Alberto Musalam. He is the president of the St. Louis Fed. Thank you for coming in this morning here in Washington. And we have some news in Washington that we may be getting close to the end of the shutdown which would release data. But just in case that doesn't happen, based on what you know now, what do you think about the economy?
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Alberto Musalam
Mike, good morning. Great to be here. I see an economy that is has been pretty resilient where growth has been roughly around potential around 1.8 for for this year in spite of a lot of uncertainty. I see a labor market that has been around full employment is around full employment with has been cooling with demand and supply have been cooling and I see inflation which has been closer to the 3% level than to our 2% target.
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Michael McKee
Well, we know that when the data comes out everybody will be parsing it carefully but is it going to add a lot to your knowledge of where the economy is and possibly change any decision you might make?
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Alberto Musalam
More data is better than less data so we will learn it always has, you know, additional value. I do feel that we have a pretty good sense of where the economy is. We have availed ourselves during this period of unofficial data dearth is called that with private sector data. We have been in close contact with all of our constituents, businesses, households, community leaders in our in our district. So I feel we have a pretty good sense of the economy. But I'm very much looking forward to seeing the official data releases because they are the gold standard and they'll provide additional information.
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Michael McKee
Well, what are companies in your district telling you?
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Alberto Musalam
You know they are saying that consumption has been resilient. They're saying that growth has been fine. They're saying the labor market has softened a little bit. They see much more, many more applicants per per vacancy. They report compensation growth somewhere between 3 and a half to 4% so things.
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Michael McKee
Look reasonably okay but the consumption that remains resilient. Obviously at the upper ends you have the stock market wealth effect driving it. But I know You've been worried about the lower deciles because they're taking on more debt.
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Alberto Musalam
That's exactly what's happening. So we estimate that the real consumption growth of the high income folks and of the low income folks has been about the same. But as you said, the higher income households are consuming the, from the wealth effects they have in the stock market and home prices. By the way, lower income folks are taking on more debt. They're taking on more credit card debt and that's how the economy has been thus far.
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Michael McKee
Well, taking on debt to continue consumption. A cynical economist might say. Where have we heard that before and how did that turn out? Are you worried that we're setting up for a problem?
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Alberto Musalam
By and large, when I look at consumer finances, if you look at consumer balance sheets, by and large for the economy, they are okay. The consumer is not over indebted here. Now over the past year we saw an increase in subprime loan defaults, we saw an increase in credit card defaults. Now over the past year those have started to stabilize and actually come down some. But you know, at the lower end of the income spectrum you always have to worry that the, you know, those consumers who live, you know, hand to mouth need to, need to wait until the end of the month to make it, you know, could be, always, could be strained. Yeah.
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Michael McKee
Companies I know have been telling you and your colleagues for some time that they're waiting for clarity, especially on fiscal policy going forward, which doesn't seem to necessarily be coming. Are any of them saying, we're kind of at a point now where we have to raise prices to keep up with our input prices or we have to cut back on people because our margins are compressing.
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Alberto Musalam
Two questions, two answers. Companies tell me that uncertainty has plateaued and that they can understand how to operate in this new, with this new higher level of uncertainty. So some of that is going on in terms of pass through of higher costs. Companies are experiencing higher costs, somewhat related to tariffs. Some are related to other things like insurance, which is totally unrelated to tariffs. Tariffs and companies that are upstream so earlier in the production process are successful in passing on those costs to other companies to build products that they build. Companies that are closer to the consumer and selling to the final purchaser of a good are having more difficulty in passing things on because they are facing some, some pushback from the final buyer.
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Michael McKee
The labor market, how fragile is it? We've seen a lot of layoff announcements over the past couple of weeks. Is this a gathering trend? Are we going to start Talking about the SAHM rule again, I see the.
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Alberto Musalam
Labour market as having cooled in an orderly way both because supply and demand have cooled. The the latest challenger job announcements, which are you're referring to, you know, I definitely took notice of them, but they don't necessarily mean the labour market is about to go into deterioration phase in the same week that they were announced. As you know, the weekly claims which are, you know, another very good indicator of layoffs has, has remained stable so far. So you have to look at all of the data in the labor market and see whether those layoff announcements will.
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Michael McKee
Actually materialize in terms of supply problems in the labor market. Monetary policy can't affect that.
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Alberto Musalam
The traditional way to think about monetary policy is that it is more effective with respect to cyclical and demand side type of factors. But I think we also need to be thinking if the economy is going through a structural transition, you know, what role does monetary policy need to play in facilitate facilitating that transition. So we have to in my mind be thinking about those two things.
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Michael McKee
Now there are two arguments that seems to be at the Fed right now. One is that we need to get ahead of a brewing problem, especially in the labor market. And the other is if you're in a dark room, you want to move carefully and maybe pause. Which one do you think carries more weight?
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Alberto Musalam
The way I think about it is I feel we have adequate information to make decisions to cut rates or not to cut rates. For me it's about the outlook that I happen to have and the balance of risk that I happen to have with the information that I currently have. So going back to your first part of the question, in the past year the real federal funds rate has declined by 250 basis points. Of that 150 basis points have been reductions in the nominal interest rate to provide insurance to the labor market and to get ahead of any deterioration in it and to keep it the labor market around full employment. And about 100 basis points of the decline in the real federal funds rate has been looking through the rise in expected inflation mostly due to tariffs. So that's how I think about monetary policy right now.
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Michael McKee
Well, to the extent that they know what are companies telling you about monetary policy? Do they say that we're going to have to raise prices or cut employees if you don't cut interest rates?
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Alberto Musalam
Not necessarily. I don't hear that from from companies. Companies often are more concerned about non interest costs that are increasing. For example, I mentioned insurance, but you know, raw material costs and other other costs to produce things all the Way from, you know, building homes to producing manufactured goods. And so I hear more about that than about interest costs being something that needs to be passed on to consumers. So it's very important that we continue to focus on bringing inflation back down towards 2%.
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Michael McKee
Well, we hear a lot from your colleagues. We heard from Chair Powell about the risk of cutting too fast versus the risk of not cutting soon enough. What about the risk to credibility if you cut but then inflation doesn't go down and you have to start thinking about raising rates again.
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Alberto Musalam
As Chair Powell said, there's no risk free path. And you know, if we focus too much on the labor market and then cut too aggressively, we can have an undesired outcome on the inflation side. If we focus too much on the inflation side and labor market deteriorates, going to have an undesired outcome. And so right now what our strategy, monetary policy strategy document says is that when you have some tension between your two goals, you have to follow a balanced approach, which is to steer monetary policy to attend to both goals.
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Michael McKee
Well, which way would you steer it in December based on what you know?
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Alberto Musalam
Now I think again the, it's very important that we tread with caution here. I think there is limited room to ease policy further without policy becoming overly accommodative. Monetary policy in my estimation is somewhere between modestly restrictive and neutral, probably closer to neutral. If you look at the real federal funds rate, it now is around 1%. And 1% happens to be the long run neutral rate in real terms for the federal funds rate of the entire committee, the median, I should say, of the entire committee. So I think we need to continue to lean against inflation to make sure we bring inflation back down towards our 2% target while providing some insurance to the labor market. One thing I hear often when I visit with folks in my district is that people are having more month than money increasingly, number one. Number two, I hear that folks are increasingly going to food pantries, including middle income folks. And I hear that aid institutions are increasingly getting requests for utility assistance, probably related to higher electricity and energy prices, I should say electricity prices. So those three things tell me that it's really important that we bring inflation back towards 2% to allow households to catch up up with our real incomes.
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Michael McKee
Only got about 30 seconds left. Markets are up this morning. They're cheered by the possibility of a shutdown deal. But when the sun comes up in the east, they've been going up cheerfully lately. Are you worried about the level of asset prices?
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Alberto Musalam
Financial conditions are very accommodative of economic activity and, and of employment. The Fed, the board just released its financial stability report where it says that asset valuations are notable. And you know, it's not our job to opine on particular valuations of markets, but if you look at that report suggests that, you know, house prices seem elevated relative to historical standards, stock prices seem elevated. And to me, it's just the flip side of accommodative financial conditions.
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Michael McKee
Alberto Musallam, thank you very much for joining us this morning. The President of the St. Louis Fed.
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