‘Very little is gained from Fed’s front-running' a pull back on QE: Macropolicy Perspectives President

Yahoo Finance’s Brian Cheung and Julia Coronado, Macropolicy Perspectives President and Founder, discuss Fed policy as yields rise.

Video Transcript

BRIAN CHEUNG: We saw from the jobs report last Friday that the economic recovery is headed in the wrong direction. It was a 140,000-job contraction that we saw in the month of December. That was the first negative reading since April. So the question, where do we go from here?

Julia Coronado is at Macropolicy Perspectives. She's the president and founder there. Now, I want to begin, Julia, with just kind of your general outlook. It seems like there's an enormous amount of uncertainty, when you factor in the political instability that we saw last week. We have a new administration coming in. But then there's, obviously, also the virus. What do you expect to be the biggest story of this year?

JULIA CORONADO: Yeah, we're still very, very leveraged to the virus and how things unfold. There's a lot of optimism that the vaccines will prove effective and will prove effective to this new strain and that we'll roll it out and get to a much better place by the second half of the year. And I think that's a very reasonable baseline, given the science, as we understand it, and our capacity to overcome obstacles, like supply chain issues with the vaccine.

But we need to get there. And the progress is slow. The mutations have been fast. The spread is intense. And it's implied constraint on activity is very, very real, and that's what we saw in the jobs report Friday.

So I think it's-- you know, it's going to be a rough first quarter of the year, despite the fact that both fiscal and monetary policy are in a very supportive position and that markets are certainly erring on the side of the glass half full over the medium term, and that's providing support to companies and, you know, balance sheets. So that's all good news and sort of leaves us poised for a better second half, if we can execute and the stuff-- and the virus cooperates and we can get there.

BRIAN CHEUNG: Well, when you talk about policy, obviously, you illustrate that there's two main players there, fiscal and the Congress side, and then monetary, on the Fed side. On the Fed's part, we heard from the likes of Atlanta Fed president, Raphael Bostic, who's a voting member this year. He said that he would support pulling back on accommodation, if the recovery comes in faster than he expects, referring probably to the quantitative easing program. They've been buying about $120 billion in assets every month. What do you think is kind of gained by having that heads-up communication right now of that type of policy, and do you think, at all, the Fed should be doing that anytime soon?

JULIA CORONADO: So that's a great question. I think President Bostic was not-- he didn't walk through the fires of the taper tantrum of 2013, and it shows. You know, we-- very little is gained from trying to front-run that signal by the FOMC members, if the intention is to keep that support in place until we get safely to the other side of the pandemic. Then saying less is probably better than starting to warn the market that the reduction in accommodation is coming and they should get ready for it.

We've seen yields rise. Most of that has been, arguably, justifiable, based on optimism over the medium term outlook, over the fiscal position, the Georgia election result, the vaccine development. So all of that is sort of benign so far, but I don't think that they probably want it to go much further or faster in that direction.

They do want low rates to be supportive of the housing market and the interest-rate-sensitive sectors as we emerge. You know, the fiscal policy is filling the tank, and they want that to be ready to go once people can move about and make their decisions-- economic decisions, spending decisions-- more freely.

So-- but you're putting your finger on the fact that the balance sheet policy is the least reliable component of the Fed's reaction function. It's-- you know, we're still in-- this is only the second cycle that we've used it, so we don't have a mapped-out relationship between interest rates and balance sheet policy and balance sheet policy in the economy.

I think Vice Chair Clarida came out and tried to clarify that they are applying patience to the balance sheet policy, as well as to interest rate policy, obviously, not in the same extent. There's a sequencing of reduction in policy. Balance sheet would come first. But he said he's even got a better-than-median expectation for growth this year, and yet he doesn't expect a taper until 2022.

And that's the kind of messaging that I think will keep the waters calm, as we get through this difficult period. And then we can cross that bridge later, once the economy-- if we can get to that stage where the economy is really ramping up and hiring is back, you know, in very strong territory, which we expect. The Fed expects, most private forecasters expect it. But we need to get there before we start talking about pulling back support.

BRIAN CHEUNG: Well, I want to get there as well. I'm sure you do, too. I guess I want to ask about the lines between monetary and fiscal policy. For the most part, they try to keep them independent. But during times of crisis, they do tend to kind of come together and then blur the lines.

We have Janet Yellen, who will be getting her confirmation hearing, reportedly, on January 19, the day before inauguration. She's a former Fed Chair. She has a working relationship with Jay Powell at the Fed. Sherrod Brown will now be hooding the Senate Banking Committee, which goes through a lot of that nomination process, as the Georgia results kind of gave us. So what do you expect to be the story between monetary and fiscal policy in 2021 and the years to come?

JULIA CORONADO: Well, I think, you know, again, we're still in a crisis. As optimistic as we are, you know, we still need to get to the other side. So I think the argument is that at least for 2021, the-- there is no tension between them, the Fed keeps supporting low rates and the fiscal policy keeps delivering stimulus and support.

And I think-- so you know, one, I think Yellen will have no problem getting confirmation. I think her execution of domestic finance and bond issuance is going to be very transparent and reliable and adhere to the-- sort of the principles that the market is used to. The Fed will then make its own decisions on the terms of bond purchases, and I think they'll mesh together very seamlessly, or at least that will be the goal in 2021.

And then, you know, we'll see how the inflation outlook actually evolves and the employment outlook and when it is appropriate for the Fed to start recalibrating policy. And then there might-- you know, then they stop being complements, and they can become more substitutes because the economy will be more in a-- you know, the baton will be passed back to the economy in a self-reinforcing dynamic between the labor market and consumer spending.

But we're not there yet. We don't-- even with a great second half of the year, that's really not a story until 2022. And then the Fed can sort of step back to its independent position and say, OK, now we're going to kind of, you know, remove some of the rum from the punch bowl and do so slowly and carefully, as the economy continues to heal.

But I think, in the near term, actually having a former Fed Chair as Treasury Secretary is ideal. I mean, we're still in uncharted territory. We can't take any of this for granted. And the disparities in the recovery is something that the Fed and Yellen are very focused on.

Aggregate statistics do not tell the story that will be required to restore the economy to full health and to even achieve the inflation outcome that we would like to see. Inflation tends to be based on broad-based prosperity and purchasing power. We never got to 2% because the Fed was calibrating off of the aggregate numbers that reflected a lot of inequality.

BRIAN CHEUNG: Right.

JULIA CORONADO: If they want to let the economy run strong enough to produce broad-based gains, then that kind of broad-based recovery will produce inflation outcomes they want. So I think--

BRIAN CHEUNG: Yeah.

JULIA CORONADO: --even in 2022, the Fed is going to be very patient.

BRIAN CHEUNG: Right. And we heard from them that, likely, there will be no rate hikes through the end of 2023. Of course, many things can change. But at least for me, I'd probably need more rum in my punch bowl, at least for right now. But Julia Coronado from Macropolicy Perspectives, president and founder, thank you for joining us on Yahoo Finance today.

JULIA CORONADO: My pleasure.