St. Louis Fed President: U.S. Economic Outlook Robust, Inflation Expectations Still a Key Variable.

St. Louis Federal Reserve Bank President Musalem expressed optimism about the overall outlook for the U.S. economy this year, but is closely monitoring consumer and business inflation expectations to assess the future inflation trends and the necessity of monetary policy adjustments. In his speech at the National Association for Business Economics (NABE) Economic Policy Conference in Washington, Musalem pointed out that his baseline forecast is for inflation to continue to approach the Federal Reserve's 2% target, while the labor market remains close to full employment. However, achieving this outlook will require monetary policy to remain moderately tight until progress is made on inflation. Additionally, he emphasized the importance of maintaining stable inflation expectations to prevent a self-reinforcing increase in prices. "The economic growth prospects remain good, the job market remains healthy, and the financial environment is supportive," Musalem said. However, he also acknowledged that some recent economic data has been weaker than expected, indicating that economic growth still faces some risks. And due to inflation still being above the 2% target, more effort is needed in monetary policy to ensure price stability. Musalem is particularly focused on consumer inflation expectations, as they have a significant impact on Federal Reserve policy decisions. The final data from the University of Michigan's February inflation expectations survey showed that consumers expect inflation to reach 4.3% in the next year, up from 3.3% in January. Long-term inflation expectations also rose from 3.2% in January to 3.5% in February, marking the largest monthly increase since May 2021. He emphasized the importance of maintaining stable medium to long-term inflation expectations, as this will allow the Federal Reserve to maintain maximum flexibility in responding to economic changes, especially when facing the difficult trade-offs between employment and inflation. If the job market weakens while inflation remains stable or continues to decline towards the 2% target, the Federal Reserve may consider cutting interest rates, but only if inflation expectations remain stable at a level consistent with the 2% target. Looking back on history, Musalem pointed out that the costs of inflation governance in the 1970s were significantly higher than those since 2022, largely due to out-of-control inflation expectations at the time. "Therefore, if there are signs of inflation expectations becoming unanchored, I will pay special attention to this issue and prioritize ensuring that inflation continues to converge towards the FOMC's 2% target in a full employment environment." Despite Musalem's cautious optimism about economic growth, the latest economic forecast data has sent warning signals. After the update on March 3, the Atlanta Federal Reserve's GDPNow model predicted a 2.8% contraction in the U.S. GDP for the first quarter, further deteriorating from the -1.5% on February 28. Prior to this, the model's predictions had remained in the 2%-4% growth range, consistent with most other forecasting models. The change in the model indicates that U.S. economic growth is rapidly slowing down. GDPNow's forecast is based on pure mathematical calculations and does not include any subjective judgments. The Atlanta Federal Reserve website emphasizes that this forecast does not represent the official view of the Federal Reserve. Foreign media analysis points out that while the GDPNow model fluctuates significantly at the beginning of the quarter and is often more informative at the end of the quarter, the latest downward forecast is consistent with other indicators reflecting economic growth slowdown. This data has further exacerbated concerns about the economic outlook. If GDP continues to contract while inflation remains high, the Federal Reserve may face more complex policy choices. Musalem also discussed the potential impact of tariff increases and changes in immigration policies on inflation. He noted that from a monetary policy perspective, if the price increases resulting from these factors are temporary and limited in impact, the Federal Reserve can choose to "ignore" this short-term shock. However, if inflation rates remain high above the target, or if long-term inflation expectations rise, the Federal Reserve may need to adopt a different policy response. "In this case, a stricter monetary policy may be appropriate," Musalem added. He further pointed out that if the labor market deteriorates while inflation remains high, the Federal Reserve's policy choices will be even more difficult. "Currently, inflation is already above 2%, and the job market is at full employment, so the risks of policy adjustments are higher than when inflation is at or below target," he said. While Musalem believes that the U.S. economy remains robust, the risks of inflation have not been completely eliminated, especially as changes in inflation expectations may affect the future direction of monetary policy. However, the latest GDPNow forecast from the Atlanta Federal Reserve has already begun to warn of the possibility of an economic recession, indicating that the Federal Reserve may need to strike a more difficult balance between inflation and growth. Federal Reserve officials may need to weigh the possibility of interest rate cuts in the coming months, while ensuring that inflation expectations do not rise further. The market is closely watching the upcoming economic data releases to determine whether the Federal Reserve will make policy adjustments in the future, a process that may be more challenging than expected.