March 31 (Reuters) – Kansas City Federal Reserve President Jeff Schmid on Tuesday warned against assuming higher energy prices will have only a transitory effect on inflation, given that inflation was running near 3% even before the Iran war set off a surge in oil prices, and progress toward the Fed’s 2% goal had stalled.
“I don’t think we can be complacent about the risks to inflation expectations,” Schmid said in remarks prepared for delivery to the Rotary Club of Oklahoma City, adding that he takes little comfort from the fact that most measures of medium- and long-term inflation expectations have been pretty stable. “It is now our job to follow through with policy actions that validate those expectations.”
Schmid did not specify what policy actions he meant, exactly, though last year he dissented twice against the Fed’s decision to cut rates to support a labor market he views as broadly in balance. Financial markets last week reflected rising bets that the oil price increase could force the central bank to raise rates later this year to head off inflation, though this week the market view is that the Fed will hold rates steady instead.
Many of Schmid’s colleagues, including Fed Chair Jerome Powell on Monday, have also expressed concerns about the potential for higher oil prices to unmoor inflation expectations. But they also typically say that for now it is fine to wait and see what happens, while also flagging the risks to growth and the labor market should, for instance, consumers cut down on spending to make sure they have enough money to fill their gas tanks.
Schmid said he feels higher oil prices will put only a “modest drag” on growth, and noted that higher tax refunds this year may offset the hit to consumption from higher gas prices.
“The resiliency of the U.S. economy should not be underestimated,” he said. Meanwhile the hit to inflation from higher oil prices is unambiguous, he said, and will lift not only headline inflation but also core readings, excluding energy and food, that the Fed sees as a stronger signal of where inflation is likely to head.
Fed policymakers must weigh threats to their two goals of stable inflation and maximum employment, which sometimes require opposite policy responses, he said.
“As I weigh those tradeoffs, I’m more focused on the risks to inflation at this time,” Schmid said.
(Reporting by Ann Saphir; Editing by Chizu Nomiyama )
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