Former Fed Vice Chair Clarida Anticipates Fewer Rate Cuts

Richard Clarida, who previously served as the Vice Chair of the Federal Reserve, has hinted that the Fed might be forced to adopt a more cautious approach to interest rate cuts this year than was at first thought. His comments come in the wake of continued high inflation that could mean the central bank has to adopt a more cautious approach this year.

Clarida, who was at the Fed until the beginning of 2022 and now works for Pimco as a global economic advisor, emphasized the need for vigilance as "sticky" prices pose a challenge to the Fed's objectives and will potentially reduce its ability to cut interest rates as planned.

After its recent meeting, the Federal Open Market Committee hinted that there was a possibility of as many as three rate cuts expected this year, but Clarida suggests that such expectations might be overly optimistic and a data-driven strategy would be more appropriate.

Markets had also factored in the expectation of three cuts this year, though that has been walked back somewhat after data pointed to higher inflation than expected.

The Fed's hopes balance on the supposition that inflation, especially in the housing sector, will come down, thereby allowing a cut in the key borrowing rate from its highest point in over twenty years.

Clarida expects that the Fed will implement at least one rate cut this year, whatever happens, but the decision is clouded by mixed signals from the data. The Fed favors the Personal Consumption Expenditures prices index for its inflation measurements. That metric excludes food and energy costs, which are two of the areas of most concern to the American public who need to eat, drive, and heat their homes.

Even discounting these crucial areas of inflation, the PCE headline rate is well above the Fed's 2% target. January was 2.4% for headline inflation and 2.8% for core. However, in February, the more typically followed Consumer Price Index was at 3.2% for headline inflation and 3.8% for core, both way higher than the Fed's target.

Even worse, the Atlanta Fed measured "sticky" inflation at 4.4% over 12 months and even higher, at 5%, on a three-month annualized basis. "If these figures were used by the Fed to decide, there wouldn't even be a conversation about rate cuts," said Clarida.

Clarida also touched on the state of financial conditions, which, contrary to Jerome Powell's recent comments on their tightness, appear to have eased somewhat since November and are at their loosest since the start of 2022, as per a Chicago Fed measure of financial conditions.

This news leaves the Fed trying to navigate a delicate balance, as the anticipation of rate cuts can improve financial conditions, potentially muddying efforts to reduce inflation to the 2% target.