St. Louis Fed President James Bullard on Wednesday (April 4) offered a cautious assessment of the nation’s economy, saying the U.S. is in a “slow growth era” with downside risk in 2018 due to possible interest rate hikes, low inflation and a potential trade war with China.
“I think the overall message is that the U.S. economy is doing very well right now, so this is mostly a talk about things or risks that could go wrong because this is what with we get paid to do as … central bankers,” said Bullard, one of five Federal Reserve presidents who serves on the 19-person Federal Open Market Committee (FOMC) that makes U.S. monetary policy,
Bullard was the keynote speaker at the Arkansas Bankers Association and Arkansas State Bank Department’s Day with the Commissioner. As one of the presidents of the 12 regional districts within the Federal Reserve, Bullard oversees the expansive Eighth District that includes all of Arkansas and six other states.
In his wide-ranging, 30-minute presentation to several hundred Arkansas bankers and financial executives, Bullard touched on economic topics ranging from U.S. Gross Domestic Product (GDP) growth and inflation to the FOMC’s current interest rate policy and the tech sector’s “oversized” impact on U.S. and global equity markets.
The St. Louis Fed chief began his speech by noting that the nation’s strong economic expansion in 2017 tapered off in early 2018, mainly because first quarter GDP growth has been revised downward due to unforeseen and unknown factors. Calling the modest GDP expansion of 2.3% in 2017 a “growth surprise,” Bullard said much of the nation’s expansion was driven by robust profits of American multinational corporations that spilled over into the “roaring stock market.”
“But so far in 2018, this has stalled out a little bit …, partly because of the uncertain first quarter results and the markets trying to determine the direction of U.S. trade policy,” said the influential Fed policymaker. “All these factors have led to more uncertainty about the U.S. (growth) than previously.”
THE TECH SECTOR
Bullard emphasized that the nation’s technology sector has been a key driver of “real U.S. economic” expansion and market valuations, contributing more than 40% of the U.S. stock market’s overall growth in 2017.
“This has been a huge factor and something that has affected every aspect of American business. And I think it is a really important trend to keep in mind when we are talking about the U.S. economy,” he said. “The tech sector is a really heavy driver of U.S. and global economic performance. What is the future of that for all of the rest of the industries in the U.S.? That is the key question of our time to understand the future evolution of the U.S. economy.”
The biggest surprise on the global scale in 2017 was how GDP growth in Europe, Japan and China economies overtook the slow U.S. expansion, Bullard said. The good news is that some of that overseas growth fed into U.S. corporations that do business in Europe and other global markets.
“So you had all your major cylinders globally contributing surprisingly to the upside, and that really drove a lot of the story in 2017 on the real side of the global economy,” he said.
Going into 2018, however, Bullard said U.S. and global equities have been more volatile, adding that current GDP estimates are “all over the map.” He said uncertain financial data for the first quarter, which is traditionally inexact, is also skewing forecast for the remainder of 2018.
He said the U.S. economy will see tepid growth for the remainder of 2018 and the following years. Although the Fed is still calculating financial data from the first quarter, Bullard said he expected the U.S. economy to expand at a rate of 2.5% in 2018, following by downward trend of 2.2% and 2% in 2019 and 2020, respectively.
“We are living in a relatively slow growth economy … because of low productivity growth and low labor force growth in the U.S., and so anything above 2% is above trend growth in this situation,” he said.
INFLATION, YIELD CURVE RISKS
On inflation, Bullard said he believes readings will remain just below the FOMC’s 2% target for 2018 because of unpredictable food and energy prices. As a noted inflation hawk, the Eighth District’s chief economist said the FOMC missed inflation targets for nearly five years now. He said it still doesn’t appear that inflation is nearing the Fed’s 2% annual rate.
“So that has really been the surprise on the inflation front during 2017,” he said. “And this is all the more alarming because the low readings came against the backdrop of what was otherwise a great year for the U.S. economy. Good GDP growth, good labor markets and according to conventional theories, you would have thought all that would have put upward pressure on inflation.”
Bullard also revisited his cautionary advice to the FOMC that if U.S. monetary policymakers continue the course of hiking short-term U.S. interest rates, the nation’s economy could be at risk of a so-called “yield curve inversion.” That, he said, could put the U.S. economy on a path for a long downturn if the nation’s central bank continues the current policy of increasing short-term interest rates while long-term rates remain flat.
“This flattening is due to the short (term) rate coming up and the long rates staying about where they have been,” he said. “So, it is really the Fed that is flattening the yield curve.”
In a December visit to Little Rock, Bullard offered a similar warning at the Arkansas Economic Development Institute’s annual economic forecasting event at the Clinton Library. That was a few weeks before the U.S. Senate approved President Donald Trump’s nomination of Federal Reserve Board Governor Jerome Powell to lead the U.S. central bank, replacing former Fed Chair Janet Yellen.
Bullard said Wednesday that while the spread between 10-year and one-year Treasury yields was nearly 300 basis points in early 2014, it has narrowed recently to only 70 basis points.
“I am very strong on this issue. I do not want to invert the yield curve in this situation based on Fed policy. I don’t won’t to be experimenting with something like that. It is unnecessary,” he said.
In the past, Bullard crossed ways with FOMC policymakers on Yellen’s accommodation policy of continuing to gradually raise interest rates over the short-term. Under Powell, the FOMC has continued that strategy, deciding to raise the target range for the federal funds by 25 basis points to 1.5% to 1.75% at the Central Bank’s March meeting.
TRADE WARS AND ‘BUMPY RIDES’
Speaking to reporters after his ABA speech, Bullard said he would continue to aggressively caution Powell and other FOMC policymakers to reconsider short-term rate hikes. Last month, Powell forecasted three rate hikes in 2018 despite modest inflation.
“It is not necessary to raise (interest rates) further in order to put downward pressure on inflation,” said Bullard, adding that U.S. monetary policy is close to “neutral” compared to past rate hikes.
Bullard also spoke in detail at the ABA event about President Trump’s recent decision to slap more than $50 billion in tariffs and other costs on a broad range of Chinese products imported to the U.S. He said the heightening market concerns, along with the impact of how China retaliates, could led further uncertainty for the U.S. economy.
“I think we are in for a long, bumpy ride,” Bullard said in a Q&A response at the ABA event. “A possible (trade war) does present some downside risk.”