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00:00[CC may contain inaccuracies] Chris it's great to have you back with us. The timing couldn't be better we just got of that big big big moving inflation. And as early as December 17th after last FOMC meeting you said you could see a March rate hike. You could see three rate hikes this year. We actually the first person on the Fed to do this. But now we've got at least three Fed bank presidents Jim Bullard Pat Harker Charlie Evans saying they could even see four rate hikes. Are you starting to lean in that direction. Well I think the three hikes is still a good baseline. We will have to wait and see what inflation looks like in the second half of the year if it continues to be high. The case will be made for four maybe five hikes. But if inflation falls back in the second half of the year as many of us think it will as some supply chain issues get sorted out then you could actually pause and not even go the full three. So it really is going to hinge on the inflation data the second half of this year. But yeah you can't rule these things out. OK let's just dig it out a little bit deeper. And I want to kind of to underscore what you said Chris play something that Jay Powell said very measured but I'd say pretty definite when he testified at the Senate Banking Committee just a couple of days ago. If we see inflation persisting at high levels longer than expected then then we will know then will if we have to raise interest rates more over time we will we will use our tools to get inflation back. You just said you could see. Sure. Depending on inflation does maybe five rate hikes this year. I believe that those December 17th remarks you said yes there could be a pause after rate lift off and then in the second half of the year go further. Is it sort of like do whatever it takes especially if you don't see inflation starting to respond after you do say the first three rate hikes going for four. And again you just said going for five maybe. Yeah I mean it really depends on what happens with inflation. I mean if inflation just is stubbornly high through the first part of this year first half of this year we're gonna have to do a lot more. But that's where that's our job and that's what we're committed to do. And if we have to do more rate hikes we'll do it. We also have the balance sheet. We can start letting the balance sheet run off earlier. That'll take some pressure off longer in rates and also lead to a tightening of policy and removing some accommodation before we move on the balance sheet. Another very important question. I want to ask you something. Could you see conditions where the Fed might do a 50 basis point rate hike this year. That hasn't happened in a long time. But I'd say if you want to in fact impact inflation maybe even inflation expectations. Could you see a 50 basis point rate hike in the mix. I certainly even though I kind of as the date come in I still favor a march lift off. I don't see a 50 basis point hike in March. We have not prepared markets for anything that dramatic. One of our key themes has been not to surprise markets given well enough advance in terms of what we're trying to do and a 50 basis point move in March would really be a shock. So I don't see I can't speak for the committee. I can only speak for myself. But I really don't see a 50 basis point hike in March down the road if inflation just does not look like it's coming down. It would certainly be in the toolkit but it would take a lot for us to move in that direction. The Fed has done a 50 basis point rate hike in a long time. Now you just said that the balance sheet runoff if needed could even come sooner. So sooner than what. If I'm not mistaken again in December you seem to imply that you thought the the balance sheet run up could start in May. We have to see the taper and it will before the march meaning let's say to the rate hike. So what did what would be a super balance sheet run off. And you know why the Fed's moving more aggressively than it did on the balance sheet run off that it did at the end of the last cycle. Right. So what should we expect. Well I think certainly by summer we could start shrinking the balance sheet one it's very large at almost 9 trillion dollars. The economy is in a much better place than it was when we did this before. And it's very clear from the reverse repo facility that we run that about one and a half to two trillion dollars a day is pouring back into that facility. So the market doesn't need that one and a half to two trillion dollars in liquidity. So that wasn't necessarily the case before. So we've got a lot of room to do it. But again we'll do this when because we think it's the right thing to do for policy in reaching our dual mandate. This seems cheap from the Fed minutes. Also that there's the Fed thinks maybe there's a problem that the yield curve will flatten and invert as you start raising rates. And so is this. Is this another reason to start raising. She's been running off the balance sheet earlier than you might have otherwise. And how how are you going to do this. Well certainly if you have a large balance sheet and you're putting pressure on the long end of the yield curve by starting to drain you can take some pressure off how much the yield the tenure would move. That I can't say. But at least you're not putting artificial pressure downward on it while you're pushing up rates at the short end. So that just makes the conductor policy a lot easier at this point. We're most likely just going to wait to shrink it. We're just not going to reinvest principal payments that come in so we can just decide how much of those rate how much that reinvestment we want to do. Last time we did caps with a maximum cap being about 50 billion a year we could certainly do more this time given the sheer size of the balance sheet. And like I said the state of the economy and the state of liquidity in the markets I don't know what exactly those caps could be but they could certainly be larger than we did last time. Would you do more if for example you see the you do see yields. Falling I mean their husbands I'm concerned you can see it in the upcoming 60 Minutes about the fact that global bond yields are already low. There's a lot of capital coming into the US. If you start raising rates at the short end even if the long end just stays the same yield curve is going to flatten. And depending on how much you have to move up the short end you could see the inversion again. Could you use the balance sheet to more aggressively address that. Yeah I mean that's certainly the case. I mean global central bank policies have done a lot to keep pressure on tenure and longer term yields. And they're still gonna keep that pressure on. So even if we start lifting off it's not obvious. You'll get a lot of movement on it 10 years later in the maturity structure. But again we can take actions on the balance sheet to try to put some upward pressure on those rates to provide prevent the yield curve from flattening too much of the. If we feel that's our problem again. In your December remarks I just found them really pretty interesting and important Chris when you made them. So I want to go back to something. You said that the starting the balance sheet the balance sheet run up after lift up and would ultimately and continuing this would reduce the number of rate hikes that Fed needs to do this year. So how would you gauge this. How would bounce or how will balance sheet reduction and raising rates work together. Well like I said if we start running off our balance sheet in a significant way and we see longer term yields responding to that that's going to remove accommodation and tighten conditions just like an increase in the short term rate. So we'll see whether that action occurs or not when we start doing it. The key thing to remember the policy rate is our main policy tool. That is how we really want to tighten policy and affect inflation and try to achieve our dual mandate. But the balance sheet is there. We can't avoid. We can't ignore it. We used it for the last two years to try to put downward pressure on rates. So if we undo that we're going to have some impact on rates in the opposite direction going as they go up. And that is and that'll help us avoid any yield curve inversion problems. OK. Do you have a target rate for inflation now. You have a sense of when you'll know you've done enough to rein in inflation and to say OK we can at least pause now and see what we're doing. How what kind of guidance can you give on that. Well like I said if inflation is stayed higher for longer than any of us thought it was going to. We still have a lot of expectations that inflation pressures will drop off in the second half of this year. And my own view is inflation would be probably by the end of the year down around two and a half percent. And then once you get to that point it's it's not as pressing to to do a rapid no rapid rate hikes if you get inflation back down to the two and a half number by the second half of the year. Then I think by 2023 it'll move closer to our target. And that'll take a lot of pressure off having to raise rates. You know also in that December speech you talked about the uncertainty of forecasting in such an uncertain time. Should we surmise then that that means you think that the Fed is should move more slowly and more gradually. Make sure you don't do too much or that maybe the Fed does need to be ready to go faster be more aggressive do more so you make sure inflation doesn't get entrenched in this time of uncertainty. Yeah. I mean sure Paul said in his testimony that we have to be nimble. And by that I mean we have to be ready to move in response to the data that's coming in. And that may be quickly accelerating rate hikes if the data comes in bad. Or we can take our foot off the gas if the data starts cooperating with us and comes in softer. So that's really what I think the chairman by name. But we have to be ready to make quick changes in direction and speed depending on what the data comes in. And we'll know that as we get closer and closer to the summer. One thing I want to ask you about is a kind of bigger broader question. And it's the framework the inflation targeting framework which many people say because there was such a focus on letting inflation get over 2 percent being very careful to get to maximum employment kind of declined the Fed to start moving against inflation very slowly. Some people think you're behind the curve in light of all that. At some point will it be warranted for the Fed to take a look at that framework and maybe adjust it to the new reality of the pandemic post pandemic economy. Yeah. So again this is all going to hinge on what happens to inflation the second half of the year. If it if it stays kind of stubbornly high stays above 3 percent then you know clearly we've got to do more and then potentially rethink what we do with the framework. Because going forward if we're going to do averaging and inflation is running 3 to 5 percent we're not going to let inflation run at zero to 1 to make up for that down the road. So this kind of caught us off guard. These high numbers and what it implies for our policy and our policy framework we always thought you know maybe it would get up to two and a half percent after a decade of not being able to get it even up to 2 percent. So this is really thrown a wrench into how we want to think about things going forward. And so there might come a time when we have to rethink whether we want to continue pursuing flexible average targeting or not. If inflation continues to run it tour above tude down the road.

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Fed Governor Waller: Three Rate Hikes in 2022 'Still a Good Baseline'

Federal Reserve Governor Christopher Waller discusses the outlook for the U.S. economy, the central bank's policy and its balance sheet. Fed officials last month signaled they will raise interest rates three times this year and sped up the pace at which they are tapering their asset purchase program. Waller speaks with Kathleen Hays on "Bloomberg Daybreak: Asia." (Source: Bloomberg)

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