The American economy is experiencing turbulence. The trade war and global weakness are slowing growth. But Mary Daly, the president of the San Francisco Federal Reserve, is confident the economy will get through the storm unscathed.
“A recession is not, in my judgment, right around the corner,” Daly told CNN’s Poppy Harlow in a Boss Files interview this week.
Although Daly said the Fed is “mindful of the slowdown,” she believes the recovery from the Great Recession will endure.
“I think we have more room to run,” said Daly, who does not vote this year on Fed policy decisions but participates in the deliberations.
The recovery began in June 2009, creating millions of jobs along the way. The expansion has withstood countless scares, including the European debt crisis, crashing oil prices and a sharp slowdown in China’s economy. It is now the longest period of uninterrupted growth in American history.
“Expansions don’t die of old age. They’re not like people,” said Daly.
Daly, who was named the president and CEO of the San Francisco Fed last year, suggested her top fear is fear itself.
“The biggest risk is: Will the mood get ahead of the data?” she said.
Recession fears spiked in recent months when the US-China trade war erupted again. Economists and investors worried the unprecedented trade clash could be the spark for the next downturn.
However, those concerns have eased more recently as Washington and Beijing make progress in trade talks toward a preliminary deal and the US jobs market shows resiliency. US stocks have catapulted back to record highs.
Fed moves to counter trade war
Still, Daly said CEOs in her district are clamoring for a settlement to the trade war because it’s disrupting their business plans.
“That uncertainty wears people down,” Daly said.
The weakest part of the American economy is the manufacturing industry, which has contracted for three straight months.
President Donald Trump has blamed the factory slowdown on the Federal Reserve, saying it has caused the US dollar to become overvalued by raising interest rates too high.
Yet Daly said the manufacturing slowdown has been caused by weak global growth and the trade war. She said trade uncertainty has led “many” businesses to delay investments until the dust settles.
The Fed has sought to cushion the blow from the trade war and global turmoil by slashing borrowing costs three meetings in a row — steps that Daly fully supported.
Some have questioned the wisdom of the Fed using a sizable chunk of its conventional ammo during a period of low unemployment. The Fed’s three cuts have left rates at a range of just 1.5% to 1.75%.
However, Daly said central banks must use their ammo aggressively when rates are this low.
“You want to avoid the ditch, as opposed to dig out of it,” she said.
Will the Fed go negative on rates?
Weak growth in Europe and Japan have prompted central bankers there to drop interest rates into negative territory. Trump has urged the Fed to go negative as well, even though the US central bank didn’t even resort to this extreme step during the 2008 financial crisis.
Asked if she could see a situation where the Fed would turn to negative rates, Daly didn’t rule it out but said it’s too early to say whether this drastic measure would even work in the United States. And she stressed the Fed is “not out of other tools” that it would use in a shock, such as forward guidance, the strategy of telling people rates will remain low for a long period of time.
Critics and academic researchers argue that negative interest rates are backfiring in Europe and Japan because they crush bank profitability. Daly echoed those concerns.
“Negative interest rates are very hard on institutions like community banks that rely heavily on deposit taking,” Daly said. “That really makes their profitability suffer…That would be a pretty heavy lift, in my mind.”
Jerome Powell, the chairman of the Federal Reserve, said in September that he doesn’t think the Fed would resort to negative interest rates.
‘Politics literally never come up’
Trump has repeatedly slammed the Fed, holding up the central bank as the reason for below-target economic growth. The president has called Fed officials “boneheads” with “no guts” and even questioned whether his handpicked Fed chief Powell is a “bigger enemy” than Chinese President Xi Jinping.
Daly expressed confidence about the Fed’s ability to remain independent and stressed that politics had no role in the recent rate cuts. She described the “reverence” Fed officials show when they go into the “magnificent room” where policy decisions are debated.
“You cross the threshold and you go in, and politics literally never come up. Ever,” Daly said, referring to the board room in the Marriner Eccles building in Washington, D.C.
Fed officials recently held an unscheduled meeting to respond to turmoil in the overnight lending market. Spiking borrowing costs in this critical corner of Wall Street have raised fears that the central bank is losing its grip on short-term rates — the way it speeds up and slows down the economy. The stress forced the Fed to launch a new program to purchase $60 billion of Treasury bills per month. The NY Fed is also pumping in vast amounts of money to ease the cash crunch.
But Daly emphasized that nothing is “really wrong” in the overnight lending market and credited the Fed’s “decisive action” for having “quelled” the stress.
Borrowing costs have since gotten back to the federal funds rate set by the Fed because of all the money being injected into the system.
Analysts have said the Fed briefly lost control of rates last month, but Daly doesn’t think so.
“This ‘lost control’ makes it sound like something was wrong and there’s danger,” she said. “If you go back prior to the financial crisis, small breaches, day-to-day breaches of the funds rate, were not atypical.”