Fed’s Hammack warns more rate cuts court financial stability risks

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By Michael S. Derby

(Reuters) -Federal Reserve Bank of Cleveland President Beth Hammack warned Thursday that cutting rates further right now carries a wide range of risks for the economy.

Given the persistence of inflation running over the Fed’s 2% target, “lowering interest rates to support the labor market risks prolonging this period of elevated inflation, and it could also encourage risk-taking in financial markets,” Hammack said, according to the text of a speech to be presented at a conference held by her bank.

Hammack noted that financial conditions were “quite accommodative today” amid stock price gains and “easy” credit conditions, explaining that making credit even cheaper in these conditions “could support risky lending”.

HAMMACK OPPOSED OCTOBER CUT

Fed-engineered drops in short-term borrowing costs could also distort market pricing, which in turn “means that whenever the next downturn comes, it could be larger than it otherwise would have been, with a larger impact on the economy”.

Hammack also said that, while cutting rates might be framed as “taking out insurance” for the job market, “we should be mindful that such insurance could come at the cost of heightened financial stability risks”.

Hammack, who does not have a vote on the interest rate-setting Federal Open Market Committee this year, opposed the Fed’s decision to cut its federal funds target rate range by a quarter percentage point at the end of October, to between 3.75% and 4%.

The Fed cut rates to bolster a flagging job market while contending monetary policy was still in a place where it could help lower still-high levels of inflation.

Hammack has said repeatedly that monetary policy was barely positioned to provide that restraint on price pressures, and that it remained critical that the central bank brought inflation back to target after missing that goal for so long.

Fed meeting minutes released on Wednesday showed that the road ahead for central bankers was a fractious one, further complicated by a government shutdown that has deprived them of critical data to take the economy’s pulse.

A number of regional Fed officials have signaled opposition to cutting rates further, and financial markets now believe the Fed will hold steady at the FOMC meeting scheduled for next month.

Hammack’s concern about the impact of easing credit costs on financial stability has not been a major theme of Fed commentary, given other officials’ focus on the interplay between the job market and inflation.

In her speech, Hammack said that “the financial system is in good shape” amid well-capitalized banks and solid household balance sheets. She flagged elevated leverage levels in hedge funds and insurers, and said that private credit and stablecoins merited watching.

(Reporting by Michael S. Derby; Editing by Alex Richardson)