Rosengren: Economy Faces "Boom Bust", "More Tightening Needed Than Market Pricing In"

Having long ago converted from a dove to a hawk, this morning Boston Fed President (and non-voter in 2018) Eric Rosengren warned that the U.S. economy could be derailed in a "boom-bust scenario" as unemployment drops more than his Fed colleagues expect, and as the Fed falls further behind the curve of rising inflation.

In a Boston speech, Rosengren warned that overheating and trade disputes represent biggest short-term threats to continued U.S. expansion, although his own views "are that labor markets may tighten more than the median SEP forecast suggests, and that inflation is likely to increase a bit more than the current median forecast by FOMC participants."

"Therefore, I expect somewhat more tightening may end up being needed than is currently reflected in the projected median for the federal funds rate,” Rosengren warns, noting that the median from the Fed’s latest summary of economic projections is for three 2018 moves, including the hike made by the FOMC last month. This is to be expected, considering that Rosengren has previously hinted he is in the four-hike camp.

In his economic outlook, Rosengren projects unemployment will decline this year to 3.7% from current 4.1%; adds, “it is possible that unemployment will fall even more rapidly in the short-term."

To Rosengren this is a troubling development, and he cited CBO data showing periods of significant and persistent unemployment overshoot have corresponded with recessions in last half century. The Boston Fed president also said spillover effects from trade disputes could cause economic disruption wider than implied by the value of U.S. exports relative to GDP.

Some more highlights from his speech"

  • "Unlikely that the economy would perform poorly in near term; monetary and fiscal policy remain accommodative, but accommodation may generate risks in long term"
  • "By using up so much fiscal capacity now, US risks not having sufficient fiscal capacity in the future when it might be needed, would be troubling if monetary policy could not aggressively offset adverse shocks."
  • "Short-term risks include international trade, and an overheating economy"
  • "It would take a significantly broader set of trade actions than those reported to materially reduce US exports, but spillover effects are possible."
  • "Trend falling import prices due to strong dollar appears to be changing more recently."
  • "Long-term risks include reduced capacity of both fiscal and monetary policy to act against downturns."
  • "Fed has been falling short of inflation goal due to the decline in the relative price of imports from 2014-2016, and the decline in telecommunications prices in early 2017."
  • "Spreads between corporate bonds and 10-yr Treasuries has fallen to relatively low levels, notes studies have showing investor confidence that generates low credit spreads often precedes subsequent economic reversals."
  • "FOMC outlook is fairly optimistic, but his outlook is firmer"
  • "Fed's long-term interest rate forecast low by historical standards due to demographics slowing labour force growth and productivity."

Then, during the Q&A Rosengren said that he sees a risk rates go back to zero in future recession, and warned that policy mistakes are what causes recession, adding that mistakes can come via fiscal or monetary policy. In which case the US has a 200% guarantee of a recession.

Finally, looking at the longer-term tisks, Rosengren said that the growing federal debt and lack of room for monetary policy response to a recession represent longer-term risks for U.S.

Now if only he, or Janet Yellen, had some idea whose permissive, record low interest rate policies allowed the US to pile up $21 trillion in debt, leading to the current "systemic risk" which suddenly everyone in the Fed is all too aware of...