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Inflation: The Fed is a ‘one-mandate central bank,’ economist says

BNP Paribas US Economist Andy Schneider joins Yahoo Finance Live to discuss the Fed's interest rate hike and the path ahead for inflation.

Video Transcript

AKIKO FUJITA: On the broader economic picture, we've got Andy Schneider, BNP Paribas US economist. Andy, let's start with the Fed. I mean, we were saying it's been such a busy 24 hours when you look at central banks globally. But the Fed yesterday delivering what was a much more hawkish message. The interest rate hike as expected, but a lot of people looking at the Fed funds rate, saying that things could get a lot worse here.

ANDY SCHNEIDER: Yeah, so thanks for having me. And look, I think the main message of the Fed yesterday is they mean business. And I think you saw that in the dots where the median dot is now looking for 125 basis points more on Fed funds by the end of the year, and then a terminal Fed funds rate at 4.75 next year, with six participants looking for even higher at 5.

So I think this is really kind of encapsulating the message that Powell provided at Jackson Hole that this is a one mandate central bank at this point. And they want to get inflation down. And increasingly, they're saying that they're going to countenance some pain in order to do so.

AKIKO FUJITA: Yeah, we've heard that word "pain" a lot more from the Fed Chair. 4% to 4 and 1/2% is the range we're looking at by year end. You think that's enough to rein in inflation at the level that would be acceptable for the Fed?

ANDY SCHNEIDER: Yeah, so our own forecast, which we did change yesterday, is we do think they're going to get to 4 and 2% by the end of the year, and they're going to hold there. And I think there's two aspects to look at when you're looking at policy. And one is the level of rates. And at 4 and 1/2%, you're still 200 basis points above kind of neutral rates. And then another aspect is how long you're going to hold there.

And for us, that's what really matters. And in our forecast, we don't think that the Fed is going to cut this year-- well, obviously. We don't think they're going to cut next year. And we don't think they're going to cut in 2024. So we have them just holding steady at 4 and 1/2%, as inflation does grind down, but there's a lot of sticky elements of inflation. So we think it's going to take a while before it gets back to target. So do we think it's enough? Ultimately, but it's going to take them holding at those very restrictive levels for quite a long time.

AKIKO FUJITA: Yeah, let's talk about some of those sticky elements. Obviously, we're keeping a close watch on the labor market. But when you think about inflation, energy has started to pull back just a bit, although there's still a big unknown, especially with what's playing out with Russia and Ukraine. What do you think are the stickiest parts right now when it comes to inflation that you think is going to keep the Fed at bay from cutting rates?

ANDY SCHNEIDER: Yeah. So you make a good point on energy. And we do want to note that for goods prices and core goods prices, we do think those should ultimately roll. We see very high inventories. We've had a strong dollar. People are shifting their spending from goods to services. So we think that should help. But on those sticky elements, services prices. Core services prices, those are really going to be very sticky.

And two things come to mind for us. First, shelter prices, which is the biggest component of CPI. The way the BLS calculates that, it's an average. So even as market rents start to come off, it takes a while to filter into the CPI rent and CPI OER. So we think that's going to start to roll maybe next year, but it's going to be a very gradual downturn.

And then the other element that's really sticky is wages. And as long as you have an unemployment rate so low, wage growth still should remain pretty elevated. And we think there's real kind of headwinds to labor force participation. You know, quits rate very high. A lot of these kind of churn indicators high. That should keep wages really elevated. And as long as wages are elevated, that's the company's highest cost. So I think that should keep a pretty solid floor on the inflation front.

AKIKO FUJITA: Yeah, specifically on the labor market, unemployment rate, as you noted, at 3.7%. The expectation is it is going to rise above 4%. How much higher do you think it goes?

ANDY SCHNEIDER: We think it's going to go a fair amount higher, definitely higher than the Fed thought yesterday. So for us, we see the unemployment rate going all the way up to 4 and 1/2% by the end of next year and then getting up to 5% in 2024. So we see some upside to unemployment.

I think this is a good kind of instance to remember that a lot of these variables, employment variables, especially inflation, they operate with lags. And we're going from double digit growth last year to zero growth this year. So even though it doesn't feel like it right now, we think that the data is going to start to have a pretty different feel in tenor in the near term future. And we should start to see that weakening.

AKIKO FUJITA: OK, well, we'd love to have you back on as we continue to track the data as they come in. Andy Schneider, BNP Paribas US economist, appreciate your time today.