Neel Kashkari participates in a virtual town hall with the Wisconsin Bankers Association

Thank you. Thank you, Rose. And thank you to all of your colleagues for inviting me. It's great to be back with you addressing you and addressing your members. I'll speak very briefly at the top and then I know you've got some questions and we'll get into our fireside chat. You know, these meetings are important to me because it helps give me input and my colleagues input into what you all are seeing in the economy. You know, you mentioned the states that we cover. It's a large geographic region. It's quite a diverse economic region. And our job is to monitor and understand what's happening in our regional economy. And then when I go back to Washington DC every six weeks for FOMC meetings or meetings of the Federal Open Market Committee, part of what I'm doing in those meetings is sharing what's happening on the ground here in our region. Now, we can't set a different monetary policy for Wisconsin and for California and New York. We're all using the same dollar. So, it's one monetary policy for the country, but my job is to make sure that this region is represented in that deliberative process. And the way we get insight into what's happening in the region, part of it is I travel around the region with my colleagues and meet with bankers and business leaders and labor leaders. We also have seminars like this where we get to answer questions but also hear from people on the ground. All of that combined with the local, state and federal data that we get helps us to paint a picture of where the economy is going. And obviously right now the economy is somewhat confusing. We have a labor market that is showing some signs of weakness and I know we're going to get into that. The unemployment rate is up from where it was a year ago, but it's ticked down a little bit in recent months down to around 4.4%. At the same time, inflation is still too high, but it is trending at least in the right direction. Well, you know, what do we make of the labor market and the inflation data? You know, we're going to get into this, I know, but it's conversations like this that help me to make sense of the at times confusing economic signals that we're seeing. We have to make calls on monetary policy and conversations like this with your members can really help. So, thank you for having me. I look forward to the discussion and hearing from you and from your members.

Overall, the economy seems quite resilient. For the last couple years, we had expected and I had expected with our higher interest rates that we would see more of a slowing in the economy to bring inflation back down. That slowing really has not occurred the way I expected it to. The economy has proven to be more resilient and the American consumer broadly has proven to be more resilient and wanting to spend. You know, you'll hear a lot about, and I support this, that there's a K-shaped economy, which is higher income consumers are doing better and are driving more of the growth and more of the spending. I think that that's true. Overall, the economy seems quite resilient. So, the consumer has proven to be quite resilient. And then, of course, we've seen this huge investment into artificial intelligence, into data centers, into electrical infrastructure. Those are two sources of strength in the US economy. So my anticipation is that that is going to continue. The fact that those have been growing as strongly as they have makes me wonder how tight is monetary policy. I thought that monetary policy and our interest rate policy would be tapping the brakes more in the economy than is evident in the actual data. And so inflation is still too high. The labor market seems like it's gently cooling but it's more or less moving sideways. We've not seen a lot of layoffs, which is good, but we've also not seen a lot of hiring recently. It's more of a sideways moving labor market. And so, overall, the economy seems like it's doing pretty well, but there's some signs of fragility that are worth paying attention to.

Yeah. So, this is obviously, you said it right, for 2025, this was one of the most important economic developments that got a lot of attention. Other ones are important, too, but this got a lot of attention. And so, what do I look at? I look at first of all what's the announced headline tariffs as a policy matter and they've been very high at announcements and then there have been negotiations and then the headline tariff rates have been somewhat lower. Then to look at what are the effective tariff rates because many businesses have rerouted their supply chains to go through countries that have lower tariffs, there have been many exemptions and exceptions that have been applied so then we look at what do we think the effective tariff rate is and then we look at what is the actual tariff in terms of dollars collected at the border. Those are three different rates. And the dollars collected at the border as a percentage are much lower than the advertised headline tariff rates that were first announced. And of course, the dollars collected at the border is really what is impacting the economy right now, but it's been growing over time into more of a steady state equilibrium that I think we're soon to be reaching. So that's one set of factors that we study. Another set of factors is okay, so businesses are paying the tariff. What are they then passing on to their customers? And we've seen slower pass through than I would have expected. Now, why has there been slower pass through? In some cases, businesses bought a lot of inventory in advance, anticipating tariffs, and they've been working down that inventory. I've heard of some very even small businesses buying inventory from abroad to insulate themselves from tariffs and there's been businesses trying to figure out how much can they pass on. I've heard businesses many businesses have said to me that January of this year would be a natural moment where they would then reset their pricing for the next year. So it may be that we see a price bump as relates to tariffs. And so that's another set of factors. What are consumers seeing in terms of goods price increases? And then the question is, do goods price increases lead to services or non-goods inflation in other sectors of the economy? Because let's say you're a services business. Let's say you are a landscaping company or a snow plow company. Well, you actually do need some goods for your snowplows. Like if your snow plows come from abroad and the price of snow plows goes up, you're eventually going to pass those costs on, at least some of those costs on to your snowplow customer. So even if you are a services business, goods inflation can still affect the pricing dynamics that you see. So all of this is complicated. All of this is taking longer to fully reveal itself as it works its way through the economy. And so on one hand, the good news is it has not been a gut punch to the economy like many people feared. The other hand is it may have longer-term effects than we realize just because it takes longer time for all of these adjustments to be made.

And then of course I'll add to that Rose is that because you know a debate that many of my colleagues and I have been having is should monetary policy respond to tariffs? If you believe the tariffs are a one-time price increase then economic theory would say we just ignore it. Don't respond to it. It'll be done in a year. But if it takes multiple years to work its way through and coming off the back of four years of elevated inflation, now all of a sudden we're looking at four, five, six, seven, maybe seven years of elevated inflation. And people ask us, well, is 2% still your target? Or are you actually okay with 3% inflation? And I'm here to say emphatically, no, 2% is our target. We're still committed to 2%. But if this goes on long enough, people are going to start to doubt how serious we are about that.

Well, let's look at inflation in three big categories underneath the overall. So you got headline inflation which is everything in the basket of what a typical American family buys. Then you've got core inflation where we separate out food and energy. Not because they're not important, they're really important. They're just volatile. So they don't give us much of a signal about where underlying inflation is going. So within core inflation we have goods inflation which is affected by tariffs because we buy a lot of goods from abroad. We have housing services inflation. So the effect of money that we all spend as in our families to provide a roof over our head. It could be rent. It could be our mortgage. It could be insurance and depreciation on our home. And then we've got non-housing services that we also buy. Now, of those, housing services inflation is the one that I've got the most confidence is, you know, is on track. Like, we can model based on where new rent growth is taking place, how long it takes new rents to work its way through the inflation index. And I've got a lot of confidence that even though home prices are high, even though affordability is a real challenge, the growth of rents, the growth of home prices is headed in the right direction. And the housing component of inflation is headed in the right direction. The two pieces that I've got less confidence in are goods inflation. You know, actually goods inflation started ticking up a year and a half ago, well before tariffs. So tariffs probably pushed up goods inflation, too, but goods inflation actually started going up ahead of tariffs. And we're not exactly sure why. And how persistent is that going to be? And then we've got non-housing services inflation, which is probably tied to wages. And as wage growth slowly cools, it ought to bring down non-housing services inflation over time. So those are the things that I'm paying a lot of attention to. I think inflation is heading down. Now, the question is, is it going to be at 2 and a half% by the end of the year? Something short of that or something above that? I don't know. I don't have a lot of confidence in that. I don't believe we're going to wake up six months from now and see 4% inflation. I think that we've got a lot of confidence that inflation is on its way down. How slowly it's going to move down, that's the big question mark that I'm focused on.

You know, we've been shrinking our balance sheet. We just stopped shrinking it recently and announced that we're going to start growing it again just for monetary policy implementation. It's not QE. It's not trying to provide stimulus. It's just making sure that there are enough reserves in the banking system. You know, when we have embarked on things like QE including the mortgage back security market as an active policy instrument of monetary policy. So once if an economic downturn hits and the Fed cuts the federal funds rate to zero then the question is what more can we do to stimulate the economy that's when we have said let's go buy longer-dated assets, longer-dated treasury securities, longer-dated mortgage back securities to provide more stimulus. I don't see that anywhere in our immediate future, in our near future. Of course, never say never about some economic downturn that could hit the US economy but my outlook for the US economy is one of pretty good growth going forward and so I could not see any rationale for us embarking on QE or buying mortgage back securities in that environment. I do know and by the way in normal times I think most of my colleagues and I have said we want to get to a treasury portfolio because mortgage back securities and whatnot that really is more in trying to stimulate the economy and in normal times when we're not trying to provide any kind of extraordinary stimulus there's no reason for us to be buying mortgage back securities. Now that's the monetary policy, that's the Fed's role. I know the administration has announced a number of initiatives that it wants to pursue to try to stimulate the mortgage market and stimulate the housing market. That's fiscal policy. That's for them to decide on. I would just say as a macro matter, we study housing a lot because it really matters to families and to the economy. The biggest barrier for the housing market is supply. You know, I say this to Republican district, Democrat district, it doesn't matter. City, state, federal officials. Anything we can do to help get out of the way of allowing more supply to come online to build the homes and the units that families need that will help the housing market probably more than anything else. But I will leave such fiscal policy decisions for the executive branch.

Well, the basket that we talk about, the inflation basket, the government economists who create this data look at what is a typical expense for a typical American household and things like insurance is included in the basket. So, those are very real costs and I hear the same thing that the banker who submitted the question here is and this is what's tricky for the Fed. You know, there's a lot of the surveys say that Americans are feeling economic hardship right now, especially middle class and lower income Americans. Well, do Americans seem to be more optimistic on the economy right now. And when I talk to businesses that have big retail presence, they say that their middle class and lower income customers are spending in a manner consistent with a recession. They're pinching their pennies. They're trading down. They're looking for deals. And yet the unemployment rate is 4.4%. So why are so many American families feeling this economic pressure? Thankfully, the vast majority of them have not lost their jobs. I think it is because of inflation. And so that's a trick for the Federal Reserve. So if we said, 'Hey, let's go cut interest rates to try to boost the labor market and boost families.' Perversely, that might actually make the inflation problem worse. And then the thing that is causing that hardship for those families may not get better if we were to aggressively cut interest rates right now, even though it might help the labor market on the margin. And so, you know, we're in this tricky situation where monetary policy, you know, we really need to bring inflation all the way back down to 2%. So that we can get the economy in a more normal environment and people can feel good about their spending power and feel good about their economic prospects. But if we get too aggressive with interest rates, that could hurt the labor market. So this is where our two goals of stable prices and the maximum employment are in tension. And yet we have this one instrument to try to achieve these two different outcomes.

You know, it's going to depend. I don't mean to, I'm not dodging the question. It's just really going to depend on the data and how the data comes out. So, we saw a tick down in the unemployment rate most recently, and that's encouraging. I'd rather see a tick down than a tick up. If the unemployment rate moves sideways, that's one factor. If inflation moves sideways, that's another factor. If inflation starts to trend down because the tariff inflation starts fading, that would be really good news. And then we could say, great, we have more confidence that inflation is going to get back down to our target in a reasonable period of time. We can pay more attention to the labor market. You know, back in 2019 or 2018 we got down to a 3.5% unemployment rate with no inflation to speak of, you know, 1.5% inflation. And I was a strong advocate for focusing on the labor market, let's make it as strong as we can if we're not seeing inflationary pressures. And so we are really going to have to watch both sides of our dual mandate, are they heading in the right direction and in what rate. If one of them starts heading in the wrong direction, you know, that could be a big impulse that we to pay a lot of attention to.

It's imperfect. We're all flawed. We're all imperfect. We're doing our best with a complicated mixed set of data. But we need to make the best call we can based on that data and the analysis of where the economy seems to be headed.