Town hall with Neel Kashkari at the Chippewa Falls Area Chamber of Commerce

Well, thank you Jerry, and thank you all for being here. Appreciate the chamber hosting us. The Minneapolis Fed, just as Jerry said, is part of our nation's central bank. Part of the reason I'm here is that our jobs at the Minneapolis Fed are to represent all of you. When Congress created the Federal Reserve in 1913, they didn't want the central bank simply housed in the nation's capital; they wanted it spread out around the country so that all the different regions had a direct voice in the policy process. Jerry talked about the region we represent—you're an important part of that region. Meetings like this are a way for us to hear from you about what's happening in your local economy. Then when I go back to Washington D.C. every six weeks to set interest rates for the nation, part of what I'm doing in those meetings is talking about what's happening here in our regional economy. I really appreciate you being here. We're going to have open Q&A, and you can also offer me comments. The more direct you are with me and my colleagues, the more I'm going to be able to learn from you. I'll say a few more things. Each of the 12 Reserve Banks has a board of directors, made up of business and civic leaders from around the region. We're really pleased to have Jerry representing all of you on our board of directors. He might call a bunch of you before meetings, and we'll say, 'Hey Jerry, we're wondering about where wages are going. Can you ask your contacts?' Then Jerry will go off and make a dozen phone calls to collect that insight and bring it back to our board meetings so we can talk about it. We also have several other directors here from the Minneapolis Fed, and a bunch of my colleagues from my staff who are very interested in hearing what you have to say. We really appreciate our board of directors and we appreciate all of you loaning Jerry to us — he really represents you very well and takes the role very seriously. Now, Ron, who started out, talked about some questions. I'm going to go to these questions now. Get your phones out because we're going to need them to answer. This will be a nice way to set up our conversation. The first question is: Which of these best describes you — employer, worker, student, looking for work, not working but not retired, or retired? Just to level set who's in the audience. Okay, looks like about two-thirds of you consider yourselves employees working somewhere, and about a third are the employers of those folks. Just a couple folks are retired and one looking for work. Let's go to the next question: How is business activity this summer and fall compared with last year — much weaker, somewhat weaker, little or no change, somewhat stronger, much stronger? Okay, looks like somewhat weaker is the overwhelming sentiment. Next question: How would you describe labor demand in the Chippewa Valley — strong to poor? Okay, so evenly split between strong, healthy but getting weaker, and stable. It looks like very few of you are saying it's poor or declining. Next question, a word cloud: one to three words, what's the biggest challenge facing the local economy here? So, labor, housing, and inflation keep popping up in different orders. Labor — I'm going to interpret as the availability of labor. Housing is a big challenge everywhere in the country. And inflation. Workforce is getting some as well, which is obviously related to labor. Okay, next question — this might be the last one. Where are you feeling inflation the most? Where is it most painful? So we see a lot of groceries, health care, housing, food. I think those all count the same. Fuel costs have come down, so it's not as high there. Is that the last one? One more? What's your outlook for the economy over the next six months — very optimistic to very pessimistic? Okay, looks like somewhat optimistic is the largest, but somewhat pessimistic is down there. So I would say neutral to somewhat positive is how I would balance out this chart. Thanks very much, I really appreciate you taking time to enter those results. Very interesting to get a snapshot of what people are feeling right now. Jerry, do you want to start off with some questions and then we'll just dive into it?

The deficits that Congress and the executive branch decide — whatever their spending is, how much they tax us, how much they spend, what they spend on — that's completely their domain. But we take that as an input into our analysis of the US economy. When we try to analyze what the US economy's potential is to grow, how much inflation there would likely be, what's the outlook for wages and the labor force — it's an important input. If you look at forecasts by the nonpartisan Congressional Budget Office on where deficits are forecast to go over the next 20 years, it's through the roof. Almost all of it is driven by our entitlement spending — Social Security, Medicare, and Medicaid predominantly — but also interest costs, etc. The deficit just goes up and up and up. Ultimately, that's not sustainable. Congress and the president, whoever they are, will have to come together and figure out a way to balance that. Completely up to them. But whatever they decide to do will go into our analysis of the underlying dynamics of the US economy. So if the deficit is going to keep growing and growing, all else being equal, that would crowd out resources to spend on other things. On the margin, that would probably mean that the interest rate environment will be higher. Again, I'm not saying good or bad — we just have to respond to that and balance out the economy so we don't overheat it or have it grow too slowly. What are we trying to achieve? We're trying to achieve our dual mandate that Congress has told us to achieve. One is stable prices — 2% inflation. The other is maximum employment — as many Americans gainfully employed and contributing. Usually those things are like sides of a seesaw that we're trading off each other. But if the deficit goes to the moon the way it's forecast, then on the margin, interest rates will probably be higher to balance these things out.

We get a lot of data. Before the Federal Open Market Committee meets every six weeks, and before every meeting, we get about 100 pages of analysis from our colleagues, the economists who work in Washington D.C. and other economists working around the Federal Reserve System. That analysis looks in depth at the US economy but also at what's happening all around the world. We're not an island. If the rest of the world is growing more slowly, that probably means that many of the businesses in this room that are manufacturers exporting your exports are going to be lower. That probably means you're going to be hiring fewer people to build those exports to feed those markets. So we care a lot about what's happening in the global economy because ultimately it matters back for America. You're right — there's always noise in the data, noise in the international data, noise in our own data. Is the economy growing gangbusters? Is it growing slowly? Is the labor market weakening? We're always getting confusing signals. Meetings like this can actually be helpful to try to figure out where's the signal from all the noise we're getting. That happens internationally and here at home. Then we use our best judgment to try to understand where the underlying economy is headed. Thanks for asking.

You're right — there's a lot of activity happening. The nature of the economy is changing, so we're always having to pioneer new data sources to give us insight into what's happening. I don't think crypto... I don't want you to pull my thread on crypto, but if you force me, I'll be willing. Very few transactions are actually happening on crypto. People are buying crypto and selling crypto, but they're not paying for goods and services using crypto. It almost never happens unless people are buying drugs or other illegal activities. But there are many new activities happening, and we're constantly having to pioneer new data sources to try to understand what's really happening in the underlying economy. I'll give you a very simple example. When we had this huge inflation surge, one of the big surprises was how much housing inflation shot up. As we dug into it to understand the drivers of housing inflation, we realized that if you look at new rents and new leases — so if you went out and got an apartment today, what is the inflation on those leases? It should be a pretty good forecaster for overall housing inflation as the universe of leases turns over over the next 12 to 24 months. So now one of the things we look at to try to get a sense of where housing is going are different measures of new lease rates. For example, Zillow is a company you've probably heard of — an online company that didn't exist 20 years ago. They're a source of data for us to try to get a sense of where we think housing inflation is going over the next 12 to 24 months. That's just one example of many where we have to constantly look at new sources of information to figure out where the economy is headed, because the economy is constantly changing. You're absolutely right about that.

Sure. Some central banks have announced that they want to launch what's called a central bank digital currency. At the Fed, we're studying what other central banks are doing to try to understand it. Digital currencies — digital dollars — exist today. I could send anybody in this room right now $5 with Venmo or PayPal, and you probably use those types of services all the time. The private sector has already created these types of digital currencies using the legacy payment systems we have in the United States. The central bank is not issuing that — your bank is issuing it, and Venmo and PayPal, etc. So the question that I have is: What would a central bank digital currency do that Venmo and PayPal can't already do? Nobody has been able to answer that question to me. We know that there's a problem in America where a small percentage of Americans are, quote unquote, unbanked. They have a job, maybe they get paid in cash, maybe they have to go to a payday lender — they don't have a formal bank account, they don't have a credit card. That's a legitimate problem. Some people say maybe a central bank digital currency would help solve that problem, but no one has offered any evidence that it would. There are a bunch of things like that worth studying, but I haven't seen any evidence that any of these actual problems in real life get made smaller or better by the Federal Reserve issuing a central bank digital currency. The bottom line is, even if we wanted to, Congress would have to authorize us to do it. It would have to be a decision by our elected bodies. Then we could consider it. Right now, it's simply a topic of study to understand what other central banks are doing and why.

Our supervisors work really hard to try to make sure that banks are following the rules and operating in a safe and sound manner. But banks make mistakes, and we make mistakes — we don't always get it right. The most visible example of this was a year and a half ago when Silicon Valley Bank got into a crisis. They had loaded up on long-term bonds. Interest rates went up, the value of those bonds went down, which wiped out their equity on a mark-to-market basis. That scared a lot of their customers, who then pulled their money out. And talking about online payments and these kinds of transactions, the speed of the run — how fast people were able to pull out money — was unprecedented. That led to concerns about other banks that might have similar exposures. That's an example where clearly the bank didn't get it right, but I would say we didn't get it right in overseeing the bank and making sure they were only taking risk that they fully understood. Overall, our supervisors do a good job. They work very hard, they're very conscientious. But they are human — we are human — and we make mistakes. Hopefully we can learn from our mistakes so we avoid repeating them. I will say this: In 2008, Jerry mentioned this in my bio — I was one of the first responders in the 2008 financial crisis. I was at the US Treasury Department. I was shocked that a major banking crisis happened in 2008, then in 2020 when COVID hit, financial markets were also facing massive fragility because of the pandemic. The Federal Reserve had to step in to stabilize markets. Then in 2023, we had to step in again to stabilize regional banks — there was a lot of concern about some of those regional banks. It's frustrating for me that as focused as we have been and continue to be on banking, problems continue to emerge. I think we're not done.

Other questions or comments? How are you finding the economy? We saw a third of you consider yourselves employers, two-thirds are workers. What's it like being a worker in Chippewa Valley? If your employers are in the room and that's why you're not speaking up, we'll give you a pass.

One of my biggest lessons from the inflation episode is that going into the pandemic, we struggled because we kept thinking we were at maximum employment. Meanwhile, the unemployment rate kept ticking down from 4.5 to 4, all the way down to 3.5%. Yet inflation didn't really budge. We didn't even get 2% inflation — we were stuck at around 1.5 or 1.6%. That was an odd thing happening. Maybe we weren't really at maximum employment, and that's why inflation didn't come. Then COVID hit, supply chains got screwed up, and inflation soared. We called it transitory — me too, by the way, I was part of the transitory team. What ended up happening is it was not the labor market that caused the inflation. Most of my energy has focused on understanding how wages lead to inflation: If the labor market gets really tight and the unemployment rate drops, wages go up, and that is going to cause inflation. But that's not what caused the inflation. The inflation was a constellation of events. During COVID, when the services economy was shut down — you couldn't go to restaurants, you weren't getting on airplanes, people were stuck at home — we all shifted our behavior and started buying goods online. The balance in the economy shifted away from services and towards goods. That had never happened before. Then the goods supply chains for those very goods were disrupted because of the pandemic. So we were overloading the goods sector at a time when the goods sector was disrupted — both of those are inflationary. You also had a lot of stimulus put in the economy because folks, I thought, the pandemic would last a lot longer. The vaccines came along much sooner than expected, which thankfully shortened the pandemic. But that meant there was probably more stimulus than was needed — that was inflationary. Then you had Russia invading Ukraine, sending commodity prices to the roof — that was inflationary. Each one of those individually was inflationary. You put them all together and it was a huge inflationary pulse that shot way up. It took a lot longer to unwind than we had expected. So what's the lesson for me? One lesson is just a reminder that there are many different sources of potential inflation — it's not just the labor market. The other one we focus a lot on is inflation expectations. This is a tricky thing in economics. If you and I all believe that inflation is going to be high, then we're going to go to our employers and say, 'You need to pay me more because inflation is coming.' If we all demand that, then your employer is going to have to charge his or her customers more, and it becomes a self-fulfilling spiral. So keeping inflation expectations anchored at 2% is really, really important. We were monitoring inflation expectations throughout this episode. They stayed anchored. So my big takeaway is that inflation expectations matter a lot. Yes, the labor market matters a lot to understanding inflation, but there are a lot of other sources of inflation too — and that was a rude reminder over the last few years.

It's a great point, Jerry. I do the grocery shopping most of the time for my family too. My brain is still wired to the prices of four or five years ago. I still see these prices and say, 'Oh my gosh, I can't believe how much oranges cost, or peaches.' The one I've written about, which got some attention, is frozen lasagna — which I served yesterday, as a matter of fact. My wife is traveling, so the kids and I had frozen lasagna. We cannot bring prices back down across the whole economy. To bring prices back down across the whole economy, we would basically need to have an economy that's shrinking, and nobody wants that. What we can do — and what we are in the process of doing — is stop prices from climbing quickly from here. We're on our way back. Inflation is running right now, depending on how you measure it, kind of in the mid to high twos on an annual rate. We need to get it all the way back down to 2%. We're making good progress — over the last year it's come way down. But mid to high twos still means it's climbing — it's not going back to what it was in 2019. That's a fundamental disconnect. When I say we're making good progress on inflation, you might look at me and say, 'What are you talking about, buddy?' We're both right. I'm talking about the change going forward. Most people are saying, 'Yeah, but I remember what prices were like five years ago, and they're not even close.' And you're right.

Nice try. As I said when we started, we take whatever policies are enacted by Congress and signed into law by the president as an input into our analysis of the economy. Whether it's tariffs, taxes, or spending, all of that goes into our analysis of where we think the US economy is headed — what it means for inflation, what it means for maximum employment. I'll give you a specific example — this is not about the election — of how recent dynamics have complicated our analysis of the economy. Normally, prior to the pandemic, we thought that the US economy needed to create about 100,000 jobs a month to keep up with population growth. Every month there's a job report that gets a lot of attention. We said if it's more than 100,000, that means the labor market is getting tighter because you're not simply absorbing the new entrants — you're actually drawing from the margins. Over the last couple years, we have seen a big increase in immigration. By some estimates, maybe one million more, maybe two, maybe three million more people than had been traditionally expected based on trends. That complicated our analysis of what's the breakeven rate of job growth needed to not overheat the economy or cool it down too much. The Congressional Budget Office did very important work trying to estimate what these immigration dynamics are, and then we use their analysis as an input to our models to figure out what we think this means for inflation going forward. That's an example. If immigration policy going forward looks different, that will affect our reading of the labor market, and we'll just take it as it is.

We think that a tariff, at a rough level, leads to a one-time change in the price level. If we were buying a good from China — some widget — and now there's a 10% tariff on it, we think that Americans are going to pay 10% more. But that shouldn't by itself lead to ongoing, sustained high inflation going forward. It's probably just a one-time change in the price level that we ought to be able to analyze in a straightforward manner. What becomes difficult is if we put some tariffs, and then China retaliates, and then Europe retaliates six months later, and then we come back and do more. That becomes a vicious cycle that not only leads to higher costs but makes our job a lot more challenging in analyzing what those dynamics mean. But at a basic level, a one-time tariff should just be a one-time change in the price level. For those of you and me paying that, we're not going to be happy about that. But from an inflation perspective, it shouldn't change the dynamic very much.

Ultimately, I think either of those would have been appropriate. There were many signs that the labor market was slowing. The unemployment rate got down to around 3.5% and then ticked up to around 4.2% or so. Historically, when the unemployment rate has gone up by that much in America, it's a precursor to recession. It says, 'Hey, recession's around the corner,' and the unemployment rate would take off from there. We definitely want to avoid that. We saw a lot of signs that the labor market was weakening, so we said, 'You know what, we have made a lot of progress on inflation. Let's dial back our interest rates a little bit.' Now, even after the 50 basis point cut, I still think monetary policy is still putting our foot on the brakes of the economy. We're not yet back to what we consider to be neutral. Moving 50 basis points just moved us further along back towards neutral, but we're not at neutral yet. I think some folks argued for 25, some argued for 50. I think either of those, or both, were reasonable. We decided to go 50. Going forward, we're going to look at all the data: the GDP data, the inflation data, the labor market data. One surprise over the past couple of years for me has been how resilient the US economy has been. We've raised rates a lot, and the US economy has basically absorbed them and still continued to perform quite well, and the labor market has remained strong. That's really good news, but it's a little bit hard to figure. That makes me wonder: maybe that neutral rate that balances everything out is higher than it was before the pandemic. We're just not sure.