Fedwatching: Kugler on the Outlook (7 Feb 2024)

Fed Governor Adriana Kugler gave a video address to the Brookings Institute last week, sharing her thoughts on the outlook. Here are my takeaways:

  • Kugler struck me as marginally more hawkish than others on the FOMC. She repeated comments and phrases from several of her colleagues, stating that monetary policy is "restrictive" and that she will be watching economic data closely. However, she views risk to the Fed's dual mandate of price stability and full employment as "balanced."
  • In Kugler's view, if progress on inflation stalls, it "may be appropriate to hold the target range [steady] at its current level for longer."
  • Kugler highlighted the improvement on inflation, noting that the "pace of inflation continues to slow." She called out the six month rate for PCE inflation being at 2%, and core at 1.9%. She echoed other speakers' comments about inflation cooling coming from the goods sector, but a murkier yet still positive picture on services inflation.
  • She noted that housing services inflation data tends to lag what is going on real-time in the economy because most leases have a 1-year term. Rent inflation does seem to be slowing down.
  • Kugler noted that core services inflation came in at 3.3% in December. However, she pointed to three factors for optimism: moderation of wage growth, normalization of price setting behavior by firms, and anchored inflation expectations.
  • On wage growth, Kugler framed the moderation in terms of supply and demand--a broader trend of payrolls growth and job openings ratios towards pre-pandemic levels (declining demand from 2021 peaks) and increased supply, as measured by labor force participation. Like Powell, she highlighted the resumption of normal immigration trends as a contributing factor to boosted labor supply. In the Q&A, Kugler stated that real wages are increasing by 1% according to the Employment Cost Index and 1.5% according to average hourly earnings. That seems incongruent to the general feelings of economic malaise that people seem to have. Again, there's some kind of disconnect between what the data say and how people on the ground are actually feeling.
  • Regarding business behavior, Kugler highlighted research from Fed staff finding that firms were adjusting prices every 5 months compared to a pre-pandemic median of 10-month price changes (no idea how these data are gathered, but very interesting to me nonetheless). The current median adjustment is 7 months.
  • On inflation expectations, Kugler pointed to a range of surveys and market-implied measures of inflation that show inflation expectations returning to pre-pandemic levels. However, she said the Committee's job is "not done yet" and pointed to extremely strong GDP growth in Q3 of last year and strong consumer spending in 2023 continuing this year as factors that could blunt progress on inflation. She also highlighted geopolitical developments in Ukraine and the Middle East as having the potential to disrupt global trade, thereby pushing goods inflation back up in the U.S.
  • In the Q&A, Kugler had an interesting comment about CRE: that current valuations are not in line with fundamentals, and that there have been very few transactions recently to support true price discovery. Seems to me like the other shoe has yet to fall in CRE.

Subscribe to Negative Convexity

Don’t miss out on the latest issues. Sign up now to get access to the library of members-only issues.