Mester Says Fed May Raise Rates Within the Next Six Months

Broad U.S. economic strength may allow the Federal Reserve to start raising interest rates within the next six months and the data will determine the pace of policy tightening thereafter, a regional Fed chief said.

Federal Reserve Bank of Cleveland President Loretta Mester said in an interview with Fox Business Network today that she had a “pretty good” outlook for U.S. growth of around 3 percent in 2015, with inflation heading back up toward the Fed’s 2 percent target while unemployment continues to decline.

“I could imagine interest rates going up in the first half of the year,” said Mester, a voter on the policy-setting Federal Open Market Committee in 2014, who didn’t dissent at any of the meetings she attended after taking the helm at the Cleveland Fed in June.

Prospects for the first Fed rate increase since 2006 have heightened amid widening evidence of U.S. economic health after years of disappointment following the worst slump since the Great Depression. Third-quarter growth was revised up to a 5 percent annualized pace, the strongest in a decade, and unemployment had dwindled to 5.8 percent in November from 6.7 percent earlier in the year.

“Across a number of different indicators it looks like the economy is picking up, gaining strength,” with headwinds declining and a lower oil prices providing a tailwind, Mester said. “My outlook is for a pretty good economy in 2015.”

Replaces Pledge

The FOMC in December replaced a pledge in its policy statement that rates would be kept low for a “considerable time” with an assurance it would be “patient” in the timing of liftoff. Fed Chair Janet Yellen told reporters that meant no rate increases for at least the next two meetings, indicating no move before the FOMC gathers on April 28-29.

What Yellen tried to convey is the idea that “look, we’re going to be data-dependent and then, based on our outlook for the economy, probably not for the next couple of meetings,” said Mester, who was previously head of research at the Philadelphia Fed. “Part of it is your outlook, but it’s also how confident are you in that outlook.”

However, she cautioned against expecting the Fed to adopt a preset course on how quickly it raises rates after liftoff.

“I don’t think there’s any plan or predetermined formula,” Mester said. “It’s going to be based on how close are we to our goals, how fast is the economy growing, how quickly is inflation getting back up to the 2 percent target.”

Mester also stressed officials should be “forward looking” and not wait until the labor market is restored to full employment -- which she equates with an unemployment rate of 5.5 percent -- or inflation accelerates back up to target.

Low Inflation

Declining oil prices have pushed inflation lower. The Fed’s preferred gauge of price pressures facing U.S. households rose 1.2 percent in November from a year earlier and hasn’t reached 2 percent since April 2012.

Some Fed officials, including Minneapolis Fed President Narayana Kocherlakota, have voiced concern that the prolonged weakness in inflation risks undermining Fed credibility. Mester voiced confidence that lower oil prices would not exert a lasting inflationary impact.

“Inflation’s running a little bit low, but that’s going to be transitory,” she said.

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