Following are excerpts from a CNBC interview with Geoff Cutmore and Charles Evans, President of the Federal Reserve Bank of Chicago
GC: Let me start by asking you, when you look at some of the recent data - particularly the Beige Book - what difference do any of the numbers we've seen make to the decision making process running into the June and July meetings?
CE: Well I think the data has come in pretty well so far during this cycle. I think the Beige Book showed modest improvements and that's one piece of information I'd say that the labour market report is a very important one and we'll get another take on that on Friday. I think most recent employment reports have been really quite good and April payroll employments increased 160,000 – that's a little bit light compared to the last two years we've averaged 200,000 per month, so really good performance with the unemployment rate at 5%, I think that's good. Consumer spending has been supported by that labour market improvement so pretty good evidence so far. I think business fixed investment has been a little bit weak though – that's unfortunate but I'm looking for GDP Growth to be in the range of 2-2 and a half percent the rest of the year.
GC: Yes some of the ISM data did indicate it was patchy in terms of that investment story. How significant or otherwise do you think that will be in terms of being weighed in the minds of Fed governors?
CE: … I think the manufacturing side has been weaker recently because of the strong dollar for quite some time actually so when I talk to business executives and manufacturing entities, they're struggling with the change in competitiveness and also the fall-off in the demand for energy products – things like that. But on the other hand, auto sales have been quite strong so it's a little bit mixed. It's still slightly expansionary but manufacturing's been weaker side of it.
GC: The message that market currently is running with is the hawks are in the upper hand at the moment. We are pricing in now at least one, possibly two, summer rate hikes - do you think that is a fair assessment as far as the market is concerned?
CE: Well I think the data had continued to improve and it is looking that it is likely in line with most of our economic projections and so the summary of economic projections that all of the participants have turned in indicated at our March meeting that nine, 10 participants were expecting this year two rate increases or fewer – nine for two – and seven were expecting three or four. Data had been a little bit stronger – I can't say I know how the dots will change going into our June meeting but I think it has been reasonably favourable in that regard. Two rate hikes in 2016, that's my own call for that if the data continue to be in line with my outlook.
That's a slow and gradual increase this year. Timing is not really that important, you mentioned possibly two summer hikes, that would be a little bit more than I'd say is priced into the dots certainly in the market expectations. Timing's not really that critical from my viewpoint. As long as by end of this year, we're at just a little under 1%. I think that's given us enough time to sort of assess how the US economy has gone, the global influences and whether or not inflation is more likely to pick up in a confident fashion towards 2% - that would position us well for the next year.
GC: How critical is the Brexit vote in your assessment of these international factors that could stay the hand on a rate move in June?
CE: Well that's a great question and I'm not an expert and I think that it's a very critical decision obviously and it's going to have important ramifications for the country so I think everybody's attuned to this and looking to see how that plays out. I think in terms of the U.S., it's difficult to judge the influence. I think that markets must have been expecting, coming up to this decision time, and we'll have to see how it plays out. I'm not sure it plays an important role in our policy making beyond us just monitoring the U.S. data and general global financial conditions and having confidence that things are still on a good track.
GC: What international issues then do you think are big enough to perhaps persuade other Fed governors that it shouldn't be a June move, perhaps it should be July or later in the year.
CE: Well, like I say, it's tough to know timing and what the arguments ought to be there. I tend to think that it's going to depend on how restrictive financial conditions are. Earlier this year when there was volatility in Chinese financial markets and the rest of the world has been weaker in terms of growth, I think there was more financial restrictiveness imparted to everywhere around the globe, but certainly in the U.S. as well and so then the question, 'well, should the FOMC increase the funds rate to apply more financial restrictiveness?', well if it's already in place by virtue of the markets doing that then the urgency is not there.
The same set of conditions I think would play out here except that I believe that volatility is lower; the economic data have been better, certainly continued to improve since our last meeting and so I'm looking for us to be much closer, as Chair Yellen said, if the data continued to improve in this way, it would not be surprising if we had continued increases along our slow and gradual path.
GC: It was interesting reading your speech from last month where you talked about one of your major concerns really is the downside risks to the near-term forecasts. And it just made me think, what is the potential for policy error at this point, and with the benefit of that view, for the precautionary principle, would it be better actually to push a rate hike further out than try and do it now where there is a patchy nature to the data?
CE: Well, that's a good point. I think there actually are risk management reasons for being very slow and gradual in the pace of increasing the funds rate, that is the view that the committee has expressed most recently, I think there are also good reasons to think, well we wouldn't we be better off if we could confidently get inflation back up to 2% because as long as it is lower than that we still need accommodation in order to improve the economic situation, once we get to two, we are in a better situation. If we imposed premature tightening then that would be, we would struggle to undo that because it is very difficult to lower rates right now because they are very low and it is hard to provide even more accommodation.
That is why I think that it is very valuable to continue our accommodation to improve employment, allow people who are employed to gain more experience, to improve their income-earning abilities, we have seen reduced capital deepening which has also had longer term effects on lowering growth so the longer we can keep this going in a robust fashion more people benefit and it's worth pushing a little bit more in order to ensure that. Having said that, we do have a lot of accommodation in place, we are in a better situation and I think one or two moves this year, we would still not be getting ahead of ourselves, we would have time to monitor the economic situation and if after doing that at the end of the year we decided things still weren't strong enough, we could reduce the pace of increases even more.
GC: Last question then, you talked about the possibility of a move later on in the year that there is a sort of market view - which I'm not sure is correct but I'd be interested in your analysis - that that late in the year you start to get into trouble politically because we're then in the election cycle proper. Do you have any view on that at all, whether getting too close to November for another move on rates is dangerous or is not something that should be engaged in because the fed gets drawn into a political debate by one side or the other?
CE: Well I think I understand that argument, I've heard it a number of times. I believe that the history of Fed policymaking is that, you know, there are times when we need to raise rates. Back in 2004 during the presidential election season, we started raising the funds rate which was 1% in June of 2004 and we started increasing rates by 25 basis points - what we didn't know at the time - each and every meeting for the next seventeen times. We went through the presidential election cycle doing that, now it was slow, it was gradual – although it was faster than what we are contemplating right now – and it was appropriate because interest rates had been low for very long and the economy was doing better. If we embark upon continuing our rate increases as I expect, I think that data are better, the economy is doing better and inflation is starting to move up and it's a natural policy response to the economy. That's what central banks need to do, that's one reason why we need to have some measure of independence from short-run political concerns and we just need to do our job.
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