Fed's Mester Expects Inflation to Rebound From One-Time Factors

(Bloomberg) -- Federal Reserve Bank of Cleveland President Loretta Mester is keeping the faith that weak inflation will bounce back, even as she lowers her estimate for where unemployment begins to trigger higher prices.

“My suspicion is it's the idiosyncratic factors, it's transitory and that the factors pushing down inflation are going to dissipate over time,” Mester told reporters on Wednesday after delivering a speech to Ohio community bankers in Cincinnati. “I still have a forecast for a gradual increase in inflation back to 2 percent over time.”

In her speech, Mester said inflation's recent softness had convinced her to lower her estimate for the level at which unemployment begins to promote faster price increases, to 4.75 percent from 5 percent. Unemployment was 4.4 percent in June, just off a 16-year low set in May.

Asked whether that might prevent her from arguing for an interest-rate hike when the Federal Open Market Committee meets Sept. 19-20, she said she wants to wait for additional inflation data before making that decision.

“There could be something more going on, and I want to look at the data to be able to come to a conclusion before I decide what my policy is going to be,” she said. Mester doesn't vote until next year on the FOMC.

Fed officials are grappling with conflicting signals on when they should once again raise interest rates. Robust growth in jobs is urging policy makers to keep nudging rates upward, as they have done three times since December. At the same time, inflation has been surprisingly weak for four straight months, suggesting a pause may be appropriate.

Preferred Measure

The Fed's preferred inflation measure was 1.5 percent in the 12 months through June, after stripping out food and energy components, still below its 2 percent target.

Most economists and investors expect policy makers to hold off on their next rate move until at least December, though they anticipate officials will begin reducing the Fed's $4.5 trillion balance sheet around October. That move may raise the cost of credit, but not as severely as an interest-rate increase of even 0.25 percentage point.

In response to audience questions following her speech, Mester said she doesn't anticipate the balance-sheet unwind will disrupt either Treasury or mortgage-backed securities markets.

“I don't expect it to have a major impact on the long end of rates,” she said.

Earlier on Wednesday, St. Louis Fed President James Bullard said he wouldn't support raising rates in the near term out of concern for low inflation. He next votes on monetary policy in 2019.

“It's possible data will turn around, but we'll have to see,” he said in an interview with news agency MNI. “For now we should remain on pause.”

To contact the reporter on this story: Christopher Condon in Washington at ccondon4@bloomberg.net.

To contact the editors responsible for this story: Brendan Murray at brmurray@bloomberg.net, Randall Woods, Sarah McGregor