Federal Reserve Bank of St. Louis President James Bullard discussed the possibility of a “soft landing” for the economy following the GDP growth of previous years, meaning the economy would return to a stable growth rate rather than dipping into a recession.
In a speech delivered to the Wisconsin Bankers Association on Jan. 9, Bullard discussed how U.S. economic growth slowed on a year-over-year basis in 2019.
“The Federal Open Market Committee took action to help endure a soft landing by dramatically altering the path of monetary policy during 2019,” Bullard said. “The current baseline economic outlook for 2020 suggests a reasonable chance that a soft landing will be achieved.”
The economic slowdown in 2019 was widely expected as the economy is returning to its potential growth rate after the high of 3 percent GDP growth in 2018. The key risk in 2019, Bullard said, was that this slowing would be sharper than anticipated, i.e., a hard landing.
U.S. monetary policy changes in 2019
The FOMC was cognizant of the slowing economy during 2019 and began to project fewer increases in the policy rate during the first half of 2019, Bullard said. In June, the FOMC indicated that a lower policy rate might be warranted. The committee made policy rate cuts at three successive meetings, ending in 2019 with a reduction of 75 basis points.
Bullard said that the size of this turnaround in monetary policy has been much larger than those rate reductions alone would suggest, given the fact that the expectation as of late 2018 was that the FOMC would actually raise rates further, rather than lower them, in 2019.
He pointed out that because of FOMC actions, the two-year treasury yield dropped by 144 basis points in the last 14 months, which Bullard said is a large change given the time frame. He added that these policy actions influenced longer-term U.S. yields, which are more important for investment decisions.
“The bottom line is that U.S. monetary policy is considerably more accommodative today than it was as of late 2018,” Bullard said.
Insurance against downside risks to growth
The FOMC’s adjustment toward lower rates in 2019 may help facilitate somewhat faster growth in 2020 than what might have otherwise occurred, Bullard said. “One could view this as insurance against the possibility that nonmonetary factors could have larger-than-expected negative effects on growth.”
The Fed president addressed three factors:
Global trade policy uncertainty: Even though recent developments suggest that near-term uncertainty on global trade policy has abated somewhat, Bullard said he expects continuing uncertainty to characterize global trade policy over the medium term. At the same time, he expects that firms in the U.S. and abroad will continue to adjust their business strategies to remain profitable even in an environment with trade policy uncertainty that is much higher than the postwar norm.
“Business strategy adjustment will make trade policy uncertainty less of an issue in 2020 than it was during 2019,” Bullard said.
Financial markets: Market observers have noted the outsize advances in equity market valuations during 2019, often citing gains of approximately 30 percent for the year. “However,” Bullard said, “those gains are measured from the depths of a selloff in the latter portion of 2018, as it became clear that the economy would slow.”
In fact, Bullard noted, the level of the S&P 500 index was essentially unchanged between October 2018 and October 2019. He added that the value of the U.S. corporate sector as measured by the S&P 500 index has been increasing at an annual pace of approximately 9.5 percent over the past two years.
Renewed geopolitical risk: Turning to recently renewed tensions in the Middle East, Bullard said that one important macroeconomic impact could come to the U.S. economy through oil price movements.
Oil price shocks in 2020, however, probably don’t mean what they once may have for the U.S. economy due to lower oil intensity (in terms of petroleum products supplied per real dollar of GDP) compared with levels in previous decades, and due to higher U.S. oil production, Bullard said.
“Geopolitical risk is elevated, but oil shocks may be neutral on net for the U.S., not negative on net as in much of the postwar era,” he said.
“Intensification of geopolitical risk may mean higher oil prices,” Bullard said, “but the ultimate impact of that on the U.S. economy may be approximately neutral.”