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For Dallas Fed president, sustaining long-term growth will take more than tax cuts

Kai Ryssdal, Sean McHenry, and Maria Hollenhorst Feb 14, 2018
Pedestrians walk past the New York Stock Exchange. Drew Angerer/Getty Images

For Dallas Fed president, sustaining long-term growth will take more than tax cuts

Kai Ryssdal, Sean McHenry, and Maria Hollenhorst Feb 14, 2018
Pedestrians walk past the New York Stock Exchange. Drew Angerer/Getty Images

The Consumer Price Index rose 0.5 percent in January, a bit ahead of market expectations. While it’s easy to read a lot into a single data point, this is just one of the figures that policymakers use as they decide how to steer the economy. Robert Kaplan, president of the Federal Reserve Bank of Dallas, is one of those policymakers. He sits on the Federal Open Market Committee, one of the bodies that helps the Federal Reserve set monetary policy. Marketplace host Kai Ryssdal sat down with Kaplan to discuss the state of the economy. The following is an edited transcript of their conversation.

Kai Ryssdal: Got to start with the news of the day. Inflation consumer price index. Lots a hullabaloo about inflation, and oh, my God, the last week, 10 days. Are we more worried about that than we ought to be?

Robert Kaplan: Well, we’re at the stage in the cycle with unemployment at 4.1, 4.2 percent, and I think heading into the three — cyclical inflation pressures are building, and you would expect that. I think the reason inflation’s been a little more muted than we’re historically accustomed to is because of technology-enabled disruption (i.e. businesses’ lack of pricing power). Because of technology, consumers being empowered. That’s having some muting effect, in my opinion, on inflation. But no, we’re right to be watching it. We’re at the stage where I would expect the Fed will be … making progress in reaching its 2 percent target during this year and next year. And I think cyclical inflationary forces are building.

Ryssdal: Just to get it out of the way, you think the Fed’s going to raise interest rates probably three times this year?

Kaplan: Well, my base case  we’re trained at the Fed  I don’t speak for the whole group, I speak for myself, but my own view right now is, and base case is, that we should be removing accommodation three times this year, and we’ll see how the economy unfolds during the year, whether it’s more or less.

Ryssdal: I’m going to translate the econ speak, even though you’re not actually an economist  removing accommodation means raising the Fed funds rate. 

Kaplan: Raising the Fed funds rate, that’s right.

Ryssdal: Let me ask you about the volatility of the last week, 10 days, induced by inflation. You have said it’s healthy, and I’m not going to disagree with you, but I think what you mean is it’s healthy that we let a little air out of the balloon.

Kaplan: Well, let’s take it in pieces. What triggered what’s going on in the market probably had more to do with the economy and this concern about inflation and the fact that we are at record levels of government debt to GDP. And so Treasury issuance is going to be greater, and so the supply of that coming is greater. And so that may have started this, but I do believe for the last 15 months, before this sell-off, we’ve gone 15 straight months basically without a 3 percent correction, and that hasn’t happened in a very long time. In fact, you have a hard time finding in history when that’s happened. Closest I can find maybe as the late ’50s. And so, any time  I’ve learned from being in a markets my whole career  you see something you’ve never seen before or you haven’t seen in 50 years, it tells you that probably there needs to be some adjustment. So I’m, I wouldn’t have wished for the type of volatility we saw 

Ryssdal: Well, it was the speed, right? It was the speed with which it happened. One thousand points!

Kaplan: — but I would also say to people if volatility is somewhat higher when it settles out and there’s more up and down in the market, that would be more typical of what I’ve experienced. The last 15 months I would say was atypical.

Ryssdal: Since you mentioned it, the tax bill, the amount of debt that we’re incurring in this economy going over the next eight to 10 years. Are you concerned?

Kaplan: Yeah, I am concerned. And so, I’ve talked about three big issues, structural issues, that I’m worried about: Aging demographics, the workforce is getting older and workforce growth is slowing. Number two, we are lagging in this country in terms of education and skill levels. We’re ranked 25th of 35 OECD countries in math, reading and science, and that’s hurting productivity. And then the third thing I worry about, we’re we are building, we’ve deleveraged at the consumer level since the Great Recession 

Ryssdal: Consumers are borrowing less and paying off debt.

Kaplan: — we are more highly leveraged than we’ve ever been at the government level. And my concern is with 49 trillion of unfunded entitlements. This is unlikely to be sustainable. And the recent legislation part of it  that the corporate tax reform, I think, may help sustainable growth  but a big part of this legislation was a tax cut funded by increasing the debt, which is going to give us a short-term bump in GDP, and then we’re going to get back down to trend growth over the next year or two, except we’re going to be more leveraged, and ultimately we’ve got to moderate this debt growth.

Ryssdal: We’re going to have more debt with the same old consistent 2ish to 2.3 percent growth.

Kaplan: Yeah, and the reason  that’s my concern. And the reason, by the way, some people may be listening is saying, “Oh, my lord, why can’t growth be higher?” GDP is made up of two things. Growth in the workforce, growth and productivity. And again with aging, workforce growth is likely to be sluggish, and because of our lagging skill levels  we can do something about this, by the way, we can improve education skills training. Productivity isn’t going to make up for the slow workforce growth, and then you add a third thing — we’re highly leveraged. That’s a bad combination.

Ryssdal: Chairman Bernanke used to talk a lot about fiscal policymakers having to do their part. That is to say, the folks who make tax and spending policy in Congress and in the White House. Are they not doing their part now?

Kaplan: I’ll put it more constructively. As you know, we’re careful as a central banker not to get involved in political issues. But I would say it this way, those big three issues I just talked about, monetary policy has a role to play, but this is about so-called structural reforms. What’s a structural reform? Regulatory review is a structural form, infrastructure spending is a structural reform, immigration reform, you know, tough borders, tough scoring, but we immigrants have been key to workforce growth in this country. That’s a structural reform, and improving education is a structural reform. What I’m saying is, those structural reforms now are much more important at this stage if we’re going to increase growth. 

Kaplan: Are they are they harder now?

Ryssdal: Well, they may not be harder, but we, because we’re highly leveraged that the federal government level, we don’t have money at the federal government level to fund them. And so for example, improving education and skill levels, I believe it’s got, it tends to be a local expenditure. We know states are being squeezed. They have fiscal issues. I think the private sector, and I include myself previously in that, is going to need to step up locally in our cities and towns and states and help back nonprofits and back local junior colleges and these education programs. It’s not a short-term fix. It’s going to take years and years and years. I think we need to all, including the private sector, take ownership of this because the federal government doesn’t have the financial capability.

Ryssdal: Let me back out a little bit and talk a couple of big-picture things. But before I do that, I want to dig into one more sort of, a little bit wonky thing. One of the reasons speculation is — and I don’t expect you to confirm or deny — but one of the reasons a lot of analysts say that the Fed has been removing accommodation, raising rates, is so that in case everything goes south you will have tools in the toolkit, something you can do to lower rates. We now have trillion dollar deficits in this country every single year. Has Congress taking itself out of the, we don’t have Hank Paulson’s big bazooka any more to do something with?

Kaplan: I’ll take them in reverse order. Because government debt to GDP is at record levels, and I think there’s a question about sustainability of this path of debt, yes, I think when we next have an issue in this country or a recession, I think it might not be realistic to think that we’re going to have much capacity for fiscal policy, which means it is more likely to fall on the shoulders of monetary policy to deal with it. That probably is true. Having said that, my own view as a central banker now for the last two and a half years is I’m much more worried are we meeting our full employment mandate and our price stability (i.e., 2 percent inflation.) That still drives me more than anything else as to whether I think we should raise the Fed funds rate. And that’s what’s driving me more than in loading, creating more capacity for dealing with the next recession. I think that’s a byproduct of removing accommodation, but I’m still focused on our mandate.

Ryssdal: Couple of sort of macro issues, big-picture issues, I want to run by you. The first is America and the global trade environment. You represent the Dallas Fed, very close to Mexico, there’s NAFTA renegotiations going on, the White House is making no secret of its disdain for multilateral, international agreements. 

Kaplan: I’ll be in Mexico Friday. 

Ryssdal: Have a lovely trip. How worried are you?

Kaplan: So I spend a lot of time in Mexico, and the Dallas Fed, we have a history of being very close to Mexico. We’re the largest exporting state in the country.

Ryssdal: To Mexico?

Kaplan: No. In general. We’re the largest exporting state in the country, period, Texas is. Mexico is our largest trading partner, but we do a lot of research on trade, and the bottom line, I’ve said publicly, we would be well served, based on our research, we would be well served to segment our trading relationships. Our trading relationship with Mexico is primarily an intermediate-goods relationship. Seventy percent of the imports to the U.S. from Mexico are intermediate goods. Not final goods, intermediate goods. The goods are going back and forth across the border 15, 20 times as part of complicated logistics and supply chain arrangement.

Ryssdal: Pair of jeans going to get stitched and sewn and decorated and back and forth and whatever.

Kaplan: Car assembly, you name it. Some work done here, some there. What it’s allowed U.S. companies to do is keep plants here in the United States and add jobs here. And it’s made this hemisphere, North America, much more globally competitive. If we didn’t have that trading relationship with Mexico in our judgment, we’d likely lose many of those jobs elsewhere in the world, probably to Asia. That’s different than the trading relationship with China, which is primarily final goods. We need to be thinking about North America as a competitive hemisphere that competes with Europe, competes with Asia and segment our relationships.

Ryssdal: Well, yeah, but when the president says, “Listen, I’m going to get us out of NAFTA because it stinks, and we don’t want to be in TPP, the Trans-Pacific Partnership, because they’re robbing us blind,” or whatever it is that he says, then what goes through your mind? 

Kaplan: The trading relationship with Mexico is strategically vital to the United States and competitiveness in the United States. It’s not enough to add a job here if it’s not globally competitive. The trading relationship with Mexico  and this is based on our research at the Dallas Fed  is that the trading relationship with Mexico has improved U.S. competitiveness. And that part I think shouldn’t be lost on this decision-making. I think, by the way, Mexico is willing and is prepared to make concessions. They did it as part of TPP. And we’re saying, we’re not saying don’t modernize NAFTA. I think we should, but I think we it’s critical that we maintain a strong trading relationship with Mexico for our competitiveness. 

Ryssdal: Globalization you have said 10 or 15 years ago might have been a threat, now it’s an opportunity, you say.

Kaplan: The trading relation with Mexico is a good example of that. We’re about 5 percent of the world’s population. If we’re going to grow, we need to be more integrated with the world. And I think we’ve now made the adjustments in this country to get the benefits of globalization. Too often, if there’s a disruption in a town or a company, it’s being blamed on globalization. It’s much more likely today technology-enabled disruption that’s happening within our borders. And I think if we get that diagnosis wrong, we’re going to make poor policy decisions.

Ryssdal: As the guy responsible for the Dallas Fed, but also as a member, nonvoting this time, of the Federal Open Market Committee, what keeps you up at night?

Kaplan: That we’re not talking enough about these big structural drivers. So there’s cyclical things, inflation, unemployment. The news tends to get obsessed with these cyclical things. I focus much more on these three structural drivers, and those are the things that I want to make sure we’re spending more attention on in this country.

Ryssdal: Do you think, I mean, you’re talking about and I’m talking about it. Millions of people are going to hear this. Are we not talking about it enough or are people not listening enough?

Kaplan: So our policies need to match up with these issues. So if I told you immigrants and their children made up over half the workforce growth in the United States over the last 20 years, you would say yes, let’s toughen the borders. Let’s improve the scoring. But if you think we’re going to grow GDP by shrinking immigration, we should rethink that. You would also say, let’s really have a national initiative to improve educational attainment, early childhood literacy and skills development. And then thirdly you’d say, at this stage in the cycle when we should be reducing debt to GDP  because we know in a recession, leverage goes up — let’s be very careful about trying to reduce debt to GDP when times are good or moderate debt growth, because you don’t want to be doing that when you’re in a recession. That’s not the time to be doing it.

Ryssdal: Let me take you back to your pre-Fed civilian life. You taught at Harvard. You wrote extensively on leadership. So I want to now merge the two paths. Explain to me and characterize for me the leadership challenge that Jerome Powell now faces as the Fed chair.

Kaplan: Well. and Jay is, I think

Ryssdal: I call him Mr. Powell.

Kaplan: O.K. Jay is a fantastic choice to lead the Fed. I’ve been working intensively with him for the last two and a half years. And I would say the most important, from a leadership point of view, you’ve got to be an authoritative analyst of the economy in your own right. He is. And then you’ve got to be good at forging a consensus among all of us around the table. Whether we vote or not, we all have input into this decision. I think Jay’s great at both. I think the most important leadership quality I’ve learned you need to have as a central banker, but that’s been true in my past life, but it’s particularly true, is an openness to learning, willingness to face reality, adapt and say, “I’ve changed my mind” or “I’d like your advice” or “maybe I was wrong” is not a bad thing to be able to say and adapt to a changing reality. I think Jay’s very well equipped to do that. But also even for myself, I remind myself of that every day. Those are important skills you need to have in this job.



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