President Kashkari Remarks at the 2024 Money and Banking Conference Hosted by the Central Bank of the Argentine Republic

Introduction

Thank you, Governor Bausili. It is an honor to be here with you and Dr. Hernández de Cos from Spain. I have had the pleasure of meeting Governor Bausili a few times this past year when he visited the United States. This is my first visit to Argentina, and I am excited to see the country during this important time and also hope to have opportunities to visit again in the future.

I am going to offer some remarks today about current and future monetary policy in the United States, but I will first briefly touch on some historical context that the audience here may find relevant as you work to bring inflation down in Argentina. Let me start by noting that the comments I offer today are my own views and do not necessarily reflect the views of others in the Federal Reserve System or of the Federal Open Market Committee (FOMC).

History of Some Important U.S. Economic Institutions

The United States Constitution was ratified in 1788, but it wasn’t until approximately 70 years later, in the 1860s, that the U.S. issued a national currency, the “greenback,” that we are all familiar with today. It was actually President Abraham Lincoln who introduced both the national currency and also federal government debt as mechanisms to finance the Union efforts to fight and win the U.S. Civil War. A saying in the U.S. is that necessity is the mother of invention, and that was certainly true for important economic institutions in the U.S.

While the U.S. at that point had both a national currency and federal debt, it still didn’t have a central bank. It wasn’t until the U.S. economy was hammered by banking crises and economic depressions in the late 1800s and early 1900s, including the Panic of 1907, that political consensus finally emerged to establish a central bank, the Federal Reserve, in 1913.

But a key consideration for politicians was ensuring the different regions of the U.S. were directly represented in the policy process. So, they designed a distributed structure, with the Federal Reserve Board located in Washington, D.C., and 12 independent Federal Reserve Banks spread out around the country. This is similar to the European Central Bank (ECB) today, which consists of the Executive Board located in Frankfurt and individual country banks, whose representatives sit on the Governing Council. I am sure Dr. Hernández de Cos will provide more details about the ECB in his remarks.

The Minneapolis Fed, which I lead, represents the Ninth Federal Reserve District, which includes the northern central states of Minnesota, North and South Dakota, Montana, part of Michigan and part of Wisconsin. While each of the 12 Reserve Bank presidents represents our individual regions at the Federal Open Market Committee, we each make a recommendation for monetary policy that we believe is best for the United States as a whole.

One of the most important assets of the Federal Reserve that enables us to be an effective central bank is our credibility with the public, including the American people, whom we are charged to serve, and investors around the world. They have learned that we will do our best to make policy decisions that help us achieve the goals the U.S. Congress has assigned us: stable prices and maximum employment. As I will discuss shortly, the U.S. (and international) experience provides a strong case for central banks to focus on pursuing price stability as a precondition for robust economic performance. Inflation is an unfair tax on incomes, it increases income inequality, and it undermines confidence. When citizens don’t have to worry about inflation, spending and investment decisions are less uncertain, and the financial sector is better able to channel savings to borrowers.

Most importantly, our credibility is supported by the institutional independence of the Federal Reserve from the executive branch of the government. While we are ultimately accountable to the American people through their elected representatives, we are not making policy decisions to benefit any political party or any individual politicians. As I will explain in a moment, this credibility to focus on achieving our economic goals without consideration of politics did not always exist. It took a long time to build, and establishing it came at significant initial economic cost. But once established, this credibility has laid the foundation for economic prosperity for the last four decades in the United States.

Tackling High Inflation of the 1970s

In the 1960s, the U.S. enjoyed a period of low unemployment and generally low inflation. But in the 1970s, when oil prices skyrocketed around the world, the U.S. economy experienced a prolonged period of stagflation. Deep recessions resulted in the unemployment rate moving persistently higher while inflation climbed sixfold, from around 2 percent in the 1960s to almost 12 percent in the 1970s (Figure 1). In an attempt to mitigate output and job losses, the Federal Reserve did not aggressively increase interest rates, partly in response to political pressure from elected officials. The academic consensus agrees that, in doing so, the Fed contributed to a de-anchoring of inflation expectations and increased macroeconomic instability, ultimately undermining its own credibility and effectiveness.

It wasn’t until President Carter appointed a new Federal Reserve Chair, Paul Volcker, in 1979 that the Federal Reserve turned its primary focus to fighting inflation. Chair Volcker aggressively restrained the growth in money supply, effectively raising rates to about 20 percent and triggering a severe economic contraction and high unemployment. These painful actions, however, paid off. By 1983, inflation had fallen to under 4 percent (Figure 2).

Importantly, President Carter’s successor, President Reagan, who was from the opposing political party, reappointed Chair Volcker, thus endorsing Volcker’s approach to using monetary policy to keep inflation in check. This established a pattern of presidents reappointing Fed chairs who had been appointed by a president of the other party, which has now been repeated many times. This pattern has been instrumental in establishing political support for the Fed as an independent central bank, solely focused on economic goals rather than political ones.

This independence does not mean the Fed never coordinates with the government. Indeed, in two major crises of the past 20 years, the Global Financial Crisis of 2008 and the COVID-19 crisis of 2020, the Federal Reserve worked closely with the U.S. Treasury Department to design crisis response policies to help reduce damage to the real economy from these shocks. In both cases, the Fed’s coordination with the government did not come at the expense of us trying to meet our inflation and employment goals; rather, coordination was done to help the Fed achieve those goals. Although the sources of those crises were very different, in both cases the U.S. economy faced a weakening economy, a large increase in unemployment and potential deflation. The Fed and the executive branch of government worked together to support the economy and reduce damage from the crises, thus supporting our monetary policy objectives.

As Figure 3 shows, after the disinflation of the Volcker era, the early 1980s had a rapid decline in inflation, and then inflation was low and more stable for the next 30 years. We saw in the Global Financial Crisis of 2008 that inflation went very briefly negative, but it didn’t lead to a deflationary spiral. In fact, inflation was more or less stable at around our 2 percent target going into the COVID-19 pandemic.

The Post-COVID Inflation Surge

Of course, restoring jobs and successfully averting deflation was not the final chapter of the impact of COVID on the U.S. economy. The economy recovered quickly, and then the U.S., and most economies around the world, faced an enormous, unexpected increase in inflation, surprising my colleagues and me at the Federal Reserve and most economic forecasters.

What caused the high inflation post-COVID? With the benefit of hindsight, the causes are now clear. First, global supply chains for goods were disrupted by the pandemic and took much longer to restore than we had expected. Second, with most of the services side of the economy closed due to COVID, spending was disproportionately directed at the goods sector, which was already facing disrupted supply. Many workers left the labor force due to business closures and were reluctant to return in part because of ongoing potential health risks. Significant fiscal and monetary stimulus had been directed at the economy in anticipation of an extended public health crisis. When highly effective vaccines became widely available much sooner than expected, the need for stimulus was reduced. And then Russia invaded Ukraine, sending a price shock through commodity markets globally. Each of these factors was likely at least somewhat inflationary on its own, but combined, they became highly inflationary for an extended period of time.

What caused the fall in inflation? In response to this increase in the inflation, the Federal Reserve, and most central banks around the world, raised rates aggressively to bring inflation down. Historically, such a large increase in the policy rate had often led to recessions, like what happened in the early 1980s. But this time inflation fell while economic growth was sustained (see Figure 4).

How did this happen? While we are still in the final stages of bringing inflation down to our 2 percent target, it seems clear to me that substantial progress was made in unwinding many of the supply factors that led to an increase in inflation in the first place. Supply chains were eventually restored. The services economy reopened, taking pressure off the goods sector. Workers returned to the labor force and an increase in immigration to the U.S. led to more labor supply. The war in Ukraine, thus far, hasn’t intensified, and commodity markets have stabilized.

What role did monetary policy play in bringing inflation down? Tight monetary policy likely reduced demand for goods and services somewhat, thus helping bring inflation down. But reflecting on the mistakes of the 1970s, the most important role monetary policy played was keeping long-run inflation expectations anchored and reinforcing the Federal Reserve’s credibility with the public that we would do what we needed to do to bring inflation down. That confidence was a key factor in achieving what has so far proven to be a remarkably strong labor market, even with rapid disinflation.

Figure 5 provides evidence of this dynamic. It shows headline inflation (in blue) running at 2 percent or just below 2 percent going into COVID, and then experiencing the big run-up and subsequent fall that I just described. The green line is a market indicator of long-run inflation expectations. It’s what markets expect inflation to be for a five-year period, starting five years in the future. And you can see it barely moved during this period. This to me is a demonstration of what central bank credibility looks like, and it makes the FOMC more effective and our job easier. However, we have to do our part to maintain this credibility, and that’s what I believe we did by raising the policy rate rapidly in 2022.

What Is the Outlook for Monetary Policy in the U.S?

The Federal Reserve is committed to achieving our dual mandate goals of stable prices and maximum employment. Today, monetary policy remains in an overall restrictive stance, though just how restrictive is unclear to me. The labor market remains strong, and the most recent jobs report is encouraging that a rapid labor weakening does not appear to be imminent. Inflation has come down dramatically from its peak but remains somewhat above our target. As of right now, it appears likely that further modest reductions in our policy rate will be appropriate in the coming quarters to achieve both sides of our mandate. Ultimately, the path ahead for policy will be driven by the actual economic, inflation and labor market data.

Conclusion

I believe there are some key lessons from the U.S. experience that may be relevant to other economies around the world, including Argentina: First, low and stable inflation is a precondition for macroeconomic prosperity. Second, achieving low inflation may require short-term economic pain to both reduce inflation in the short run and to establish institutional credibility so the inflation remains low and in control over the long run. Finally, while the individual reforms will be specific to meet the needs of the individual economy, ultimately the specific institutional structures should be designed as much as possible to endure over a range of economic and political cycles.