U.S. Monetary Policy, Inflation, and Labor Markets with Adriana Kugler (Federal Reserve Governor)

>> Jon Hartley: And for those who don't know me, I'm Jon Hartley, I'm the founding chair of the Economic Club of Miami here. There's a few of my co founders who are here as well, and we have our executive director, Francisco Gonzalez, who's put in a tremendous amount of effort today for today's event.

So really grateful for all their work on this. And by way of background, an economist, I host a podcast at the Hoover Institution, the Capitalism and Freedom in the 21st Century podcast, and do a lot of economic stuff. And very looking forward to today's conversation and very much honored to have distinguished members from the Federal Reserve here today.

It's my distinct privilege to introduce to you Governor Adriana Kugler. Dr. Kugler took office as a member of the Federal Reserve Board of governors in 2023 to fill an unexpired term in 2026. Prior to her appointment on the board, Dr. Kugler served as the US Executive Director at the World Bank Group.

She's also on leave from Georgetown University where she's a professor of public policy and economics and was the Vice Provost for Faculty. Previously, she served as Chief economist at the US department of labor from 2011 to 2013. Dr. Kugler is also a research associate at the NBR and the Center for the Study of Poverty and Inequality at Stanford University.

Dr. Kugler's other professional activities also include being the chair of the Business Economics Statistics Section of the of the American Statistical association. Who's also a member of the Board on Science, Technology, and Economic Policy at the National Academy of Science. And served on Technical Advisory Committee at the Bureau of Labor Statistics.

Dr Kugler also received a BA in Economics and Political Science from McGill University. I grew up in Toronto, so it's wonderful to have a fellow Canadian connection there and also a PhD in economics from the University of California, Berkeley. I'm a Stanford Economics PhD. There's sort of a famous rivalry between the school, two schools, but we won't hold that against her.

But without any further ado, I wanna welcome to Governor Kueger to the stage to present some remarks that she's prepared. And then we're going to do a fireside chat afterward. Thank you so much. Please give a round of applause.

>> Jon Hartley: This is a live recording of an episode of the Capitalism and Freedom in the 21st Century podcast, which I, Jon Hartley, am the host of at the Hoover Institution.

It's the official podcast at the Hoover Institution Economic Policy Working Group. Really, really excited to have this conversation with you, Governor Kugler and ask you some questions, starting with monetary policy. So the Fed funds target ranges between 4.25 and 4.5% after some cuts. What do you consider to be the appropriate stance of monetary policy rates?

>> Adriana Kluger: So there's some magic number. There is no specific number that we're looking for. We look at the totality of the data and we also definitely look at trends. That for me is really important. We don't overreact to any particular number or any specific number. We look at the totality of the data and the trends and how the economy is moving.

And the other thing that we look is at forecasts and any risk that may be coming our way. So given that, as I mentioned, 2024 ended at a very solid place and 2025 is also starting at a very good place, the economy in 2024 expanded at a rate of 2.5% compared to 3.2% in 2023.

So a little slower, but it's still the highest growth rate among any advanced economies. So economic activity remains very resilient. Now let's turn to the labor market. As I said, we got data this morning and we receive good news. The labor market is healthy, it's stable. For some time the labor market had been cooling gradually.

Unemployment increased from 3.4% in April 2023 to about 4.2% sometime in the fall of last year. But what we have seen is that the unemployment rate has hovered around 4%, 4.2%. It remains stable. Also something that we see is that there's still hiring going on even though the hiring rate has gone back to pre pandemic levels and layoffs remain subdued.

So that that gives us hope that there is a balanced labor market, as I mentioned in the remarks, that is neither weakening nor overheated. The labor market is stable, which gives us a little bit of time to make decisions. By the same token, I have to say in the past few months we have seen the inflation rate moving sideways.

It has firmed a little bit. So we were paying attention to that. If we look at the overall inflation, whether it's headline or whether it's score, it has moved sideways. Specific components have made progress. So I want to acknowledge the progress that we have made. For example, in terms of the housing inflation component component, in terms of services inflation, which had been persistent for some time, but at the same time non market services inflation has increased due to portfolio management categories and things of this sort.

And then we are making less progress in terms of goods inflation, which has usually kept a lid on inflation as a whole. So that's holding us a little bit at the same level without allowing us to make progress because we're not yet at the 2% level. That means it makes sense to hold our federal funds rate where it is now.

And the final issue is, as I mentioned, we have uncertainty coming ahead in terms of new policies that may be put into place in terms of some policies that have already been put into place, but that we're not sure how they will shape up once they're implemented. So I think the cautious and the prudent step is to hold the federal funds rate where it is for some time, given that combination of factors, given that the economy is solid, given the fact that we haven't achieved our 2% target.

And given the fact that we may have uncertainties and other factors that may be pushing up the inflation or maybe reducing output and growth into the future.

>> Jon Hartley: So my next question was gonna be on inflation. And so there's been some. The Fed's engaged in a few cuts and it's now halted, sort of with the latest inflationary going a little bit sideways.

As you say, year over year inflation's now 3%, core inflation's a bit higher, 3.2%. And what do you think inflation needs to be before thinking about any further accommodation or rate cuts?

>> Adriana Kluger: So, again, I'm not one that has a magic number in mind, right? I will keep looking at the trends.

I will keep looking at where the economy is going and at the risks ahead. Now, you're right. We have made tremendous progress since the height of inflation in 2022, in the middle of 2022, when headline inflation was 7.2%. It is now Now 2.6%. If you look at core inflation, it has halved from 5.6% in 22 to 2.8%.

But in recent months we move sideways. It's really firm. So we want to make sure that we continue to make progress. This talks to the trends issue, right? That we continue to make progress and continue to slow down inflation to feel comfortable with also changing rates farther. That's not where we are right now.

I am concerned about goods inflation increasing a bed from minus 0.6% last year to now minus 0.1. So we're not getting as much help from goods inflation. Again, this non market component of services inflation is not helping us either. But the better of good news is housing inflation, which had been very persistent, it was at around 5% at the beginning of 24, came down in the fourth quarter to 4.7%.

The services component ex housing component of inflation has come down to 3.2% at the end of last year after being at around 4%. So there is some progress in some components, I would say, but I am paying attention to why these other components are kind of moving backwards now.

>> Jon Hartley: And it's a great point. Inflation was at this basically peak of many decades and we've come a long way in the past few years. I wanna talk a little bit about the balance sheet. The Fed's balance sheet today is closer to about $7 trillion from its peak of $9 trillion just a few years ago in the post pandemic period.

How do you think about the Fed's balance sheet and where should it be if you think that there should be some terminal level?

>> Adriana Kluger: So as you will remember, during the last two recessions, the 2008, 2020 recessions, we, and I wasn't there at the time, but I have to say the Fed deployed balance sheet tools to help make progress on revitalizing the economy at the time.

And I think that served economy well. In March 2022, the Fed then decided to start reducing the size of the balance sheet. And that has been happening ever since. And I would say that what the Fed, what we aim for is to reduce the balance sheet to a point that serves us in terms of our effective functioning and monetary policy.

Given what is now an ample regime system that we have now, we're paying close attention to any indicators of the conditions in money markets because what we want to see is that we're somewhat above this ample level to feel comfortable with stopping this reduction in the balance sheet size.

And we don't have any specific date. We're watching very closely, but we, we don't have a date in mind as to when that may happen. We're just continuing to watch very closely.

>> Jon Hartley: So as a nerdy economist, I love asking questions about R Star. R star it's this level of the interest rate that's neither inflationary nor disinflationary and there's all these different estimates for it out there in the literature.

We have model driven estimates from Labbock Williams which is R Star kind of falling further since the pandemic. And also surveys out now from the New York Fed which ask questions of market participants and their forecasts for where the, where the, where they would think the short term rate will be in the long run, effectively asking about R star.

That median estimate or forecast from the New York Fed survey of professional forecasters has actually been rising quite a bit since the pandemic. And other measures show R Star rising as well. The median forecast being around 3% from that survey. Lawback Williams is I think closer to below 2% now.

Do you have a particular estimate you like to use for R Star?

>> Adriana Kluger: So I use a wide range of models to inform my opinions about our star, but I also look at economic conditions generally. I also look at the financial conditions index to see the level of restrictiveness of our policy rates as they start for those.

And I know there are a few students here who wonder what these R Star is,is the neutral rate of the interest rate is basically the interest rate that will keep us at 2% without the labor market either weakening or overheating and without any shocks. So it's a theoretical concept because we're gonna continue to have shocks, believe me.

So it's kind of a long term concept where we would like to be, but it's a theoretical concept. So that's why we have these models. And I rely on a variety of models. I definitely look at the Lobach Williams estimates, which is a semi structural model as well as many other semi structural models.

There are the reduced form models. There is a number of them, Negro et al. And Liebherg and Matthews. There are quite a few of them. So they have a range of estimates. But besides looking at these estimates, something that I pay a lot of attention to is the determinants of R Star.

Why that neutral or long term interest rate may go up or down. So the reason why I do that is because I wanna be paying attention to whether these determinants or factors that affect R Star are permanent or temporary. And so that will make a big difference. And so one of the things that I and many others pay attention to, including Constance here, who's nodding and going, of course, is government debt, right?

So government debt has been going up. And this government debt means that we need to issue and supply more US treasuries. And that increases RStar. So I think that's here to stay for some time. That's pushing up R Star, for sure. The other thing is what I talked about in my speech, productivity.

So productivity also pushes up RStar. So as, as you have seen, I'm a productivity optimist. But there are others that are not as much. And time will tell, as I said, right? We'll have to see if that remains that will push up our start. There are many other factors that could push our start down, in fact.

So one of them is the aging of the population, which is happening across the world, not only here in the US but all across the world. When the population ages, people save more and they invest in safe assets. So there is greater demand for things such as US Securities.

That pushes down our star. Other things that may push down our star is international demand for US Treasuries. And that has been going up for some time. As you know, there are many countries around the world, including Latin America, which deregulated financial markets. Financial flows have increased. That would push up Star.

That would push down our star. Also because there is greater demand for US treasury. So there's a combination of factors. If you ask me, I would say our star has gone up some, but not as some others predict. I think there is some momentum, but I would say there are other factors that are keeping it down still at a level not as far from from what it used to be.

So I'm paying attention to that because As we move on towards normalizing our federal funds rate, we need to pay attention to when we stop, we need to be close to that rSTAR. So we're not quite there yet, but we all pay attention to that. And my colleague, President Bostic, who's here from Atlanta, pays close attention to that as well.

We are all definitely keeping a close eye on RSAR and we all have our estimates.

>> Jon Hartley: I think you're in good company with rSTAR thinking that rSTAR may be on the rise. I love the fact that the New York Fed, along with the bank of Canada, bank of England, European Central bank, they now put out these surveys asking professionals about their estimates of RSR.

So not only do you get to and obviously they look at these models as well, but you also get some information in terms of what people are thinking about RSR. I have a whole paper on this. I'm very invested in survey estimates of the natural rate of interest for full disclosure.

But I do think it's kind of a methodological step forward because sometimes these models can be very structural and very complicated to understand. And at least being a sort of empirical reason person, I appreciate sometimes just asking people what they think rather than having to go into a very deep model.

I want to talk a little.

>> Adriana Kluger: That's really true, I have to say I do like looking at the surveys as well. And there's survey based models, right? Which use the survey data to inform where rSTAR is too. So thank you for mentioning that.

>> Jon Hartley: Exactly and they can still coexist with model based estimates.

And I think those model based estimates maybe inform those survey estimates. Yeah, I think it's a really understated, underappreciated development. I think that's continuing to come out of central banks. The New York Fed actually has been doing this for 10 years, whereas the bank of Canada, European Central bank and ECB and also the Reserve bank of Australia have been doing it for just a couple years now.

But they're following your lead, you being the Fed. I want to talk a little bit about the labor market. You star a little bit. You are a very decorated labor economist. How do you think about slack in the economy? You star full employment where do you think we are today versus say full employment or latest unemployment reads at 4%.

>> Adriana Kluger: Yeah the typical way to measure slack is by looking at the unemployment gap or the output gap. So the gap between actual unemployment and what we call the Nairo, the natural rate of unemployment or the output gap, which is the gap between the total output in economy and potential output.

And those are usually they're estimates created by the CBO, by the Congressional Budget Office, but we certainly come up with our estimates of those gaps. Now, I have to say, during the pandemic and post pandemic period, and especially during the post pandemic period and this inflationary period that we have been living through.

We definitely realized that there were some other measures of slack which were better. So one that I pay a whole lot of attention to is the vacancies to unemployment ratio. So number of vacancies created by employers and businesses over the total number of people looking for jobs. It gives you a better sense of that gap between the total jobs available and the total number of people looking for jobs.

That VU ratio has moved tremendously over the past few years. It was 1.2 prior to the pandemic. It reached 2 in May of 2022, and now it's back. The numbers just came out this morning to 1.1 again. So it's almost 1 to 1. So that tells you something about how the economy is in much better balance, right?

In terms of labor supply being balanced with labor demand other things I pay attention to are flows. So the hiring rate, the layoff rate that I mentioned before.

>> Jon Hartley: The jolts data.

>> Adriana Kluger: Yes, exactly, the jolts data from the Labor Department. So I used to be chief economist at the Labor Department.

So this was where I spent most of my time on days 247 looking at the labor data, and that includes the jolts data. So the hiring rate is now below what it was pre pandemic. The layoff rate surprisingly has been subdued. It had been going up for a while now it's leveled off again, but it's remained subdued given the time we're living through, right?

So there has been a reduction in demand for workers, but that has come through reduced hirings and not necessarily through people being laid off. And that's good news. That's a good situation to be in because people are not desperate losing their jobs, right? It's not the 22 million that I mentioned before back during the pandemic.

So that's good news. One other measure, which, again, this shows you how nerdy I am. So I love that you are also like that. Is this measure of quits? The quit rate is one of those things that I paid so much attention when I was chief economist because it tells you about opportunities in the labor market, even for those who are already employed.

So you all remember the time of the Great Resignation. So during the Great Resignation, people were leaving looking for jobs elsewhere because there was an abundance of demand for labor. So that gives you an idea of how tight the labor market was at the time. And there is even the wage premium for quitters, for workers, right?

How much more their wages are when they leave a job and jump to another job. That tells you how tight the labor market is. That has all gone back to pre pandemic levels. So that tells you once again that the labor market is at a good place. It's healthy, it's resilient, but it's well balanced at this point.

It's neither weakening we saw the unemployment rate tick down this morning. But it's not overheated the way it was certainly a few years ago, which was causing a lot of trouble as well for businesses in terms of having shortages of workers, pushing up wages to a level that was not sustainable.

So I would say the labor market is sitting at a good place. It's stable, it's healthy, and it's resilient.

>> Jon Hartley: No, absolutely and it's fascinating too, just how much has changed in the past six months. There's so much worry about the unemployment rate moving up. It triggered some of these various measures like the SAHM rule and some of these other measures.

But, yeah, it seems like we're in a much better place now. And I think to your point, it can't be overstated how big a shift is going from having two job vacancies for every unemployed worker to simply one. Yeah. I mean, that was just a massive shift. And I think vacancies, the beverage curve is something that people, I think, are starting to pay a little more attention to.

So I think that's terrific. I want to ask you just a little bit about the Fed's framework review. I'm curious, what do you think about the upcoming Fed framework review and what do you think it should address in your mind?

>> Adriana Kluger: Yes, so we literally just started talking about these with Rafael and my other colleagues in our last FOMC meeting.

And I have to say. That one thing that I support and approve unequivocally is keeping our 2% target for inflation in terms of so many other parts of the framework. I'm entering this process with a very open mind and we're going to have a whole lot of discussion, analysis papers and reviews that we will be doing in the next many months.

So that's what we're doing now. I do have to say, and this has been told by others and it's well known that the last review was heavily influenced by the period between the last two recessions, between 2008 and 2020. So much of that review of the framework at the time focus on the zero lower bound, right?

On that ability to maneuver potentially if we were hit by a new recession, given that we were very close to the zero lower bound, or it was influenced by an inflation which was running persistently below 2%. And how to get that up, given that we had a flat Phillips curve, right?

We thought there was a flat Phillips curve. So a lot of those things is what we were seeing in the last framework. In my mind, the next framework needs to fold in what we have learned from this last period. We learned that we couldn't take stable prices for granted.

Certainly, we had to deal with these very tight labor markets and wage inflation as well is price inflation that hit levels that we hadn't seen in many decades. So I think we need to fold in the lessons from the pandemic, but also the lessons from the post pandemic period together.

Again, we shouldn't forget about that period between the last two recessions, 2008, 2020, with persistently low inflation, we should consider as many possible situations that could affect us moving forward to learn from them. And then the other thing as I mentioned that we have learned is that I think we can count on many different measures that we didn't use to count on to understand the level of tightness and slack in the labor market or in the goods market.

So many other things that could be incorporated as well moving forward. So again, entering with an open mind, happy to learn from my wise colleagues around the table and certainly very committed to keeping our 2% target.

>> Jon Hartley: Well, I think that's several excellent points. Certainly, I think the last framework review flexible average inflation target was very influenced by the past 10 years of very low inflation, zero lower bound.

And certainly, I think it totally makes sense that the next framework review incorporates the events of the past few years. And I think over all this time I couldn't agree with you more that just inflation targeting is sort of the central thing, I think, to celebrate and to certainly keep in the framework.

It's been around since the 90s, formally, was put in with Ben Bernanke. And I think just in terms of anchoring long run inflation expectations has been hugely, hugely successful. Last question. The first Hispanic governor of the Federal Reserve Board. What does Miami mean to you? And I know you have some family here.

>> Adriana Kluger: Yeah, in fact, I have some family sitting here with me. And so for me, certainly Miami first and foremost means family. As I said, I've been coming to Miami since the 1980s. My late grandmother used to be here, so I was always visiting. We have four generations of family members, right?

My great uncle, my great grandmother. Now we've moved to three generations. The last two generations have all been born here in the US and so for me, it means family and it means opportunities. I feel so very honored to be the first Hispanic person, man or woman, to serve in the Federal Reserve Board.

I take ncure. I take this role with so much humility and with the responsibility of feeling that I can represent everybody, all Americans across the country with the work that I do at the board. So how did I ended up here at the board? Right? I came because I'm an expert in labor markets.

I'm an expert in price and productivity dynamics. And that's how I ended up coming to the board, contributing that expertise. But I also bring that perspective of somebody who's a Latina, who's a woman, who's a daughter of immigrants. And that perspective comes across when. When I make my decisions and I choose to focus on certain issues that are.

No, are very important for many Americans across the country. So one thing that I spend a lot of time on is not only talking to my family here in Florida and across the country, but also talking to all Americans and meeting with communities across the country. Because I think aside from the data and you saw, I'm a data geek and I love this stuff.

I also love talking to people and finding out about their economic realities and understanding how they're seeing the economy and them telling me in real time. And that's the difference between looking at the lag data that we get and kind of understanding the realities today and how they're seeing things coming up tomorrow, right?

So I would say that that's critical for me, that I represent well all Americans across the country. And because I'm an expert on labor markets and business dynamics, being in Miami, you saw it in my speech, is just a real lab and an opportunity to explore these issues in an environment that is very dynamic and very vibrant.

So I'm so excited to be back in Miami, as I said, not only to see my family, we're having a huge picnic with about 100 family members, four generations. And I'm very excited to get together and hear from them and hear how they're seeing the economy. Definitely, but also to understand how people see our future.

>> Jon Hartley: I couldn't agree with you more. There's millions of people underlying all these data points, and I think that that can't be forgotten and. And should be remembered. Well, I want to really thank you for all your wonderful government service and thank you for this wonderful conversation. Thank you so much, Governor Kubler.

>> Adriana Kluger: Thank you, Jon.