There's Slack in the Labor Market, Kashkari Says

Officer of the Federal Reserve Bank of Dallas. One of the high points for my year was our extended conversation at the Council on Foreign Relations. Also one of the high points of my year was when Michael McKee was given the honor of final questions that chare yelling an insulted the chair by asking her which dot was her? Did you ask President Caplan of Dallas which dot was his? Did? Actually, we'll do it again, because, uh, you know, the idea of how many rate increases from the Fed next year

is paramount uh on everybody's mind on Wall Street. So why don't we why don't we start with that oddly. For some reason, Rob Kaplan has always been a longtime fan of Bloomberg surveillance, so maybe he'll let us get away with this. Um. It's one of the My father darkened the door of a small college and college station, Texas where there were no girls at the time. Anyway, leaving all that aside, UH, where is your dot? And uh do you think three rate moves in two thousand

eighteen is a reasonable assumption? Well, and I said to you, Uh, and we've talked before. UM, gradual and patient is my is my key comment. My own dot was three h Whether it will turn out that way, we'll have to see. Um. And and what would change? The economy could grow faster than I expect. Uh, we can make more progress on unemployment. Inflation might cause me to be higher than three or um. Uh.

The tenure treasury is something I'll be watching. And what the tenure does will also influence how many rate increases next year. Yeld curve is something I'll be watching carefully, so that could augur the other way. The yield curve is flattening. UM, and I wonder whether what the signal really is there because most people would say there's a massive balance sheet over the ECB. There's a massive balance sheet over the b J, and that's why we've got

this flattening. That's why the tenure yield's not rising. Do you see anything in that does that? Aren't you resonate with you? So it's a part of it, and by the way, I wish it was. I wish that was all of it. But my my own view is a part of what's going on is global liquidity. But I think the bigger part of why the tenure is muted is sluggish expectations for out year GDP growth. And what I mean by that if you look at what potential GDP growth is five years from now, I think it

is actually declining from where we are today. Why is that happening? Aging demographic slowing workforce growth, and sluggish productivity unless the United States improves early childhood literacy, college readiness, and middle skills training. So I think the tenure treasury tells you more about expectations for future growth, which are sluggish.

And so if you told me we were going to have solid GDP growth the next two or three years, trailing off to maybe below two percent five years from now, I would have expected a flatish yield curve, and that's what you're seeing. But you expect the need to address structural issues from your response just that. So what's the Fed's role in this? Fed? FED has a part in this, but not all of it. And I've been a big advocate of saying monetary policy is going to be a

key part of economic policy the next five years. But structural reform. Worms were at the stage where we need structure re forms. What do I mean regulatory review is a good thing. Uh, the corporate The elements of the tax bill that involve corporate tax reform I think are constructive. We'll come back to the rest of it. I think beefing up education. We are lagging in this country in

terms of educational attainment. It's hurting productivity. And lastly, middle skills training is going to be essential, particularly an economy where technology enabled disruption is accelerating, and I think we're lagging in those areas. You're talking about the tenure as an indicator of the market's view of long term potential growth. That is completely different than the man down in Washington who seems to think the tax cut is going to

change the whole fundamental picture for the United States? Is the market wrong or is the president wrong? So let me answer it this way. I've been in the markets my entire adult life and been watching them since I was before I was an adult, And what I learned is I don't always know what the market is saying, but I know it always pays attention to try to

decipher what it's saying. And I think the market is saying the bond market is saying expectations for future growth are sluggish, and I think it's worth paying attention to that. We know Chairman Paul is not listening this morning. He's at the dentist. Getting a root can help. I believe in Chris Kringle, You're gonna be giving the gift that keeps on giving to Jerome Powell, and that would be I know what you told me, what you're gonna buy you. You're gonna get him a copy of What you really

Need to lead your heart, your wonderful book. You no doubt bought it off Amazon, Chapter four. You can't do this alone. Learning to build relationships and harness the power of a group Blogny. There were two cents. Every chairman is different. What do you presume will be the method of Governor Paul as he becomes chairman. So the good thing j Pale is outstanding. We've been working together for I've been working together with him for more than two years.

He's been on the FED board for a number of years. And the most important thing, and I think Jay will be a great leader for this is debate, disagreement, UH and UM and to extend humanly policy possible a lack of politics, and I think Jay will take that approach. Give us a window of what happens at that long wooden table. So here here's what happens. We meet on Monday UH in d C, and we normally have committee meetings. The f O m C starts on Tuesday, and we

sit around the table. Each of us talks for ten minutes and gives our views of the economy and and we debated out on day one, that's Tuesday. And on Wednesday, we each for ten minutes give our view on monetary policy. The chair goes last, as they do on Tuesday, and the chair goes last. We debate that out and then in the last thirteen seconds of the meeting we vote.

And so the nice thing about the f O m C process, the federal up a market committee process is we debate, we disagree, and if someone in the room says something, regardless who they are, and I don't agree with it, I'm gonna raise my hand, and vice versa. And we're each trying to listen, carefully, learn and add insight. And so I think it's a pretty healthy dynamic. So the man from Minneapolis turns around on Wednesday afternoon and says to you guys, no, no, because there's a message

in the bond market to slow down. You guys should slow down. What do you say back to the man from Minneapolis. So I think the nice thing, and I think it's it's excellent. I think it's a good thing that we have disagreement, we have people willing to dissent. Uh. We gotta remember, we've been debating. We've been debating around the table each of our views. So what happens in the last thirteen seconds of the meeting when we vote is not a surprise. We already know every each other's

views and we debate amount and we disagree. Some of the disagreements get resolved and some go unresolved. And I think that's a good thing. If you my my, my rebuttal though, just so you know, is I believe we need to take a balanced approach to monetary policy. I'm more of a centrist. That means you you look at the degree of the full employment overshoot, which I think

is going to be substantial in two thousand eighteen. You look at the degree of the inflation undershoot, which I've been a big advocate of, saying part of it is cyclical, but bigger part of it is structural. And when I weigh those two, I think we'd be well served here to remove accommodation, because what you don't want to do is wait too long to where your playing catch up. Michael, get one last one. Not in the Denver brodcast or the Dallas Cowboys, neither one having a season to remember. Um,

although cowboys getting a little better. Well, the broadcast will debate that outside the studio, right. Uh back to that debate, though you say we get a substantial overshooting undershoot in terms of that unemployment rate, you got a number for that. Uh No, I mean there the full employment what is theory is a theotal radical level will know it in hindsight, But our judgment of the Dallas Fed is we're already either there or we're under it. Here's the number I

look at. I like to look not at the unemployment rate. I look at you six. As we've mentioned before, unemployed plus discourage workers plus people working part time for economic reasons is eight percent, the prerecession low. We're basically at the prerecession. That's the number I watch quickly. Does the text legislation make the American economy more Texas Like? Uh, here's my here, here's there's here's the positive of them

of this legislation. I think corporate tax reform, incentives for people to locate their businesses in the United States are positive. I think one of the posities of Texas why people are coming. It's a very attractive place to locate your business, and a lot of other things, uh no, no state tax, etcetera.

The part that I'm concerned about is the part that's a tax cut financed by increasing the deficit makes a problem that's already unsustainable more challenging, and that's my concernin Thank you so much, Michael McKee, Thank you so much as well. Dr Caplin, Thank you with the Dallas Fed as well, Champ Farron, Tom King's this is Bloomberg and now for the Minneapolis Fed the dissenter Neil cush Curry, Neil,

wonderful to have you with us this morning. Is there a distinction between your descent and that of the descent of Mr Evans of Chicago or are they saying the same thing? First of all, Tom, nice to chat with you. Thanks for having me. I think Charlie Evans and I are probably in the same place. We're both worried about low inflation and low inflation expectations and the risk that that could become anchored in the economy, and how difficult

that is to deal with if it does become anchored. Neil, why is there a message in the bond market this time around, when there was such big balance sheets at the e c P and b l J keeping a lid on long term yields. Why did you still see a message in the yield curve? Well, I think the fact that I mean there's I mean, I agree term premiums are low now, and so some people say, well, this is different because of the big quis and the

balance sheets that are out there. But the fact that the long end of the curve is not responding to our rate increases and not responding to the tax cut package that has now come together. I think there is information contained in that. I mean, even if the quees are still having some effect, I would still expect to see some movement in the long end of the curve

in response to this new information. The fact that it's not and we're, in my opinion, we're sending a very hawkish signal by raising rates at a time of low and seemingly falling inflation. I think the FED is responsible for pushing up the front end and keeping a lid on the back end, so going full ward. I just wonder what this means for policy. It's the message in the yield curve recession risk, because most people would say

it's not that, it's the message slowed down. Is that what you've taken away from its slowed down or recession risk? I think it's Look, it could be both. I mean, you know, every time somebody says this time is different, they usually end up regretting saying that because it ends up. You know, the future looks more like history than we

maybe we recognize at the time. Number one. Number two, the fact is, if the bond market is telling us that they've got low inflation expectations, or they're pricing in a local low neutral real interest rate, a low our star as we call it. Both of those should be telling us, hey, we should be cautious about raising interest rates further until we actually see the inflationary pressures building. You know, when I first dissented in March, I was

just saying, I don't see any inflationary pressures building. Why are we raising rates. What's happened since then, inflation has actually fallen, not gone up. I think we should take these signals seriously. Each voice is just inctive. You are the engineer at the FED. Twenty years ago, you were in the acclaimed Sun Race, which was an intercollegiate solar car race Illinois. I believe did better than good within

that race. Is there physics envy at the FED? Do you look around, you know, from a Newtonian standpoint of where you are, do you look around at people being too mathy, too certain in their physics versus what you observe within the economy. Well, I I do think there's some of that, and I think I've described it as a as a tension between faith and data. I think there's some folks who have tremendous faith in the Phillips curve that this is the way the economy works. Labor

markets get tight, wages go up. That leads to inflation versus looking at the data. And I I keep coming back to what is the data actually telling us? And we're trying to assess supply and demand in the labor market. If you want to assess supply and demand in a market, let's start by looking at the price. What is the price telling us, Well, we know that wage growth is not accelerating. We've been expecting it to accelerate, but it's

not accelerating. That tells me there's probably still more slack in the labor market and that's why we're not seeing these pressures building. Now, do you have any on data on how much lower unemployment can gug because we're in the low full as you're looking for something in the

low threes. Well, I think that that number is uh, probably somewhat distorted right now because if you look at prime age labor force participation, so workers roughly fifty five, there are still more than a million workers on the sidelines. If you look at labor force participation and employment to population ratios. Now, can all million be brought back in? I don't know, but it does seem to be that there's more slack in the labor market than that headline

unemployment rates suggests. I mean, what we're learning is that the deep that the Great Recession was so destructive to the labor market, some of these measures are a little broken right now, that the measures themselves seem to be flawed right now. A lot of people are criticizing you, MR because you're looking simplistically at the dynamics of the yield curve in your essay on the Minieapolis FED website. You go right to it and you say, what is new?

Is the flattening yield curve? Is it new in the recent months or is it new in FED history that we're getting these odds fixed income dynamics. No, it's new recently. I mean we've seen flattening yield curves before. We saw it in the mid two thousands, we saw it in the late nine nineties, and by the way, look at both of those periods. In the late nineties and in

the mid two thousand's, the stock market was rocketing. So I don't take any comfort from the fact that the yield curve is flattening and the stock market is rocketing because it's done it in the past, and the bond market was right and the stock market was wrong. And I'm not predicting a recession. I'm simply saying inflation is low. It's been falling this year. Why are we in such a rush to go raise rates? Why not actually allow that inflation to reveal itself. Well, you know, we have

very powerful tools to deal with high inflation. We are very limited tools to deal with low inflation soil, So why are we jumping the gun? The pushback will be financial distortions, negative yielding debt north and nine trillion dollars worldwide. There's a tradeoff here, and it's a tradeoff over about fifty basis points on PC. If you wait for inflation to get up towards two, financial distortions are going to

get even bigger. You're not sensitive to the trade off between what's happening in financial markets and what might happen with PC. Well, this goes back to UH and I wrote a long piece on my website about this. This goes back to using interest rates to try to deal with the stock market bubble and how costly. That is you both know Alan Green's band declared that we had

a rational exuberance. If he had used monetary policy to try to stop the stock market from rising, I think that would have been much more costly to the economy into workers than the actual correction that took place in two thousand and the fairly mild recession and that followed. So to me, we have to look out for financial stability risks like two thous the tech bubble, the tech bubble bursting was not a financial stability event. Neil Cosh Curry,

thank you so much, greatly appreciated. He is a president of the Filler Reserve Bank of Minneapolis. Greatly appreciate his attendance today. That's pretty good, John Capital and Cash Curry. That's quite a morning. That's quite a morning. Thank you to Michael McKee. This is Bloomberg. This is a joint and honor. He's out of Purdue and Penn State. His

name is William Hoblin. And his experience in Washington with Alice Rivlett at CBO a few years ago and was senators first of Tennessee Senator to Manici as well, has been extraordinary and he is deeply experienced in the realities of text legislation. William Hoglan is UH very important voice at the Bipartisan Policy Center in Washington. I'm gonna give you an open question, Bill, because you've got such experience, breadth and depth. Is you look at the different scenarios,

the analysis of the last three or four days. What's the thing that sticks out to you in this website, this website and that website. Well, first of all, thank you, You're very kind of your introductions. Tom. What stands out to me, I guess as I look at this is the fact that the American public, in terms of polling on this particular UH piece of legislation, seems to be somewhat negative. That they perceive it as a privately probably mostly a benefit to the upper income and corporate America,

no benefit to them. And I see this as juxtaposed up against a president who says, this is a cut for the middle This the reduction in tacts for middle class, it will grow the economy, and the and the benefits are straight. So there seems to be a real disconnect what Congress is doing and what the American public believe this legislation will do. I'm assuming William Hogan is going to tell us there's gray in the middle. Well, where's the gray? Is it towards the president or is it

towards our listeners? Well, I think that that's a very good question. I think it's gray. I think there have been I think first of all, when you look at what will what is likely to happen when this is enacted, And as I understand, the Secretary of Minution and the Treasury Department are moving in I R. S is moving to change the withholding tables so that they will have an impact upon twenty withholding. It should be some benefits there. When you look at the legislation, it does have reductions

across the board. It seems now some people will benefit, some people won't, but overall there will be a reduction in average tax take out there from the American public. How Ever, the big problem is, as I see it, is that a number of these and particularly the rate cuts and the child credits and things that the middle class America are looking for, go away in and so and yet the corporate tax cuts and the other larger

tax cuts for for business continue on. So there is what I'm afraid this legislation is not going to unite UH the American public. I think it will continue to divide us and continue to add to the polarization that seems to be somewhat rather pervasive throughout the country today, Bill, I want to dig into the polarization and maybe draw distinction between perception and reality. On the perception. Is this a communication problem with this administration? Have they sold this

plan badly over the last couple of months? Um, listen, I I I believe that we need a tax reform. I believe the President UH and the administration in Republican Democrats believe that we need tax reform. I think what's been done where they missed on this is and I no no surprise coming from the Bipartisan Policy Center where I worked today that I think it would have been a much more acceptable plan had they had. Republicans chose not to go the route of using what we call

the budget reconciliation process. It requires them to only have a simple majority in the Senate to passage. Like the tax reform bill was done in a biparson way and it had sustainability in it. I think this particular legislation will have for Republicans. It will be similar to what President Obama had with the Affordable Care Act, where it was not passed with any Republican support, only Democratic support. Now we have a legislation only passing with Republican support.

That means, from my perspective, we're going to be debating tax reform all the way through the next midterm and into the presidential election. Bill Hope. Then I want you to take this out to your perdue in the Lafayette zip code for seven nine o nine. Good morning, Pretty Materials. You've got a concrete come pretty out in western northern Illinois, south of Gary where perdue as I get it, okay, Pretty Materials. What does this mean to a normal small business,

not some real estate tycoon on Fifth Avenue. What does it mean to a company like Pretty Materials? Well, I do think that the pass through changes that the changes in the past through the S corporation. I think the reductions there. I do think that there is a benefit to some of the smaller businesses and small business out there, the individuals and entrepreneurship. I do think that that is positive.

I also think generally that that there that as we get into this and we start to see the implementation of it, and uh, and individuals uh maybe see a little bit more in their take home pay that that will benefit those individuals working for that particular company in northern Indiana and uh and has some been in So I think the issue here is it will be beneficial, it should be beneficial in the show term, and whether it's Bruce to sustain Mike, but that's fine. I still

think it's Paul. We'll have to see Bill Hogland. Thanks for listening to the Bloomberg Surveillance podcast. Subscribe and listen to interviews on Apple Podcasts, SoundCloud, or whichever podcast platform you prefer. I'm on Twitter at Tom Keane before the podcast. You can always catch us worldwide. I'm Bloomberg Radio