【US Interest Rates】Waller: FOMC Meeting Shifted to Supporting No Rate Cuts, Concerned About Continued Strait of Hormuz Blockade and Sustained High Oil Prices, Inflation Problem More Severe Than Expected

Federal Reserve Governor Christopher Waller said in an interview with foreign media that he initially supported a rate cut in March due to a sharp decline of 92,000 non-farm jobs, but with the closure of the Strait of Hormuz, it appears to be a prolonged conflict. Oil prices are expected to stay high for a longer period, indicating that inflation is more concerning than I previously thought.

He added that many studies show that labor force growth will be zero or close to zero, with zero being the net addition of jobs.

Oil is a key input cost for many products

Regarding oil prices, he said, “If oil prices stay very high and remain elevated for several months, eventually it will seep into the economy because oil is a major input cost for many products. This is very different from tariffs on toys. When you impose tariffs on toys, it doesn’t spread to all other goods in the economy. But oil is a primary intermediate import, and it will eventually permeate through. That’s why you worry about sustained high oil shocks. It’s not just a temporary fluctuation that goes up and then down.”

Lessons from the 1970s oil shocks should not be overreacted to

He believes that in the 1970s, people forgot that it wasn’t a single oil shock but a series of shocks. “If you encounter a series of single shocks, it looks like a permanent change rather than a few temporary events. But later, everyone realized that reacting to all this might have been a mistake—you need to ‘downplay’ these things. Starting in the 1980s, it became a common consensus among central banks: these oil price events, they go up and then down, and you shouldn’t overreact.”

If oil prices stay high long-term, they will seep into core inflation

“I always want to emphasize that oil prices rising and then falling is very different from oil prices rising and staying high for a long time. That’s what can cause it to seep into core inflation, and at that point, you have to respond rather than ignore it.”

“One of the key points I’ve been thinking about is: if this situation persists, inflation could be more serious than I imagined. We can only wait and see. We don’t know how things will develop. But we should consider that perhaps ‘caution is prudent.’”

“In March 2022, before we were about to lift the zero lower bound policy, I argued that we should raise interest rates by 50 basis points (0.5%). But then Russia invaded Ukraine. At that time, everyone’s attitude was the same as now: ‘We need to be cautious.’ So, for now, we hold steady. That’s also my current stance.”

Monitoring developments; if the labor market remains weak, rate cuts may be possible

“This doesn’t mean I will be on hold for the rest of the year. I just want to observe how things develop. If the situation progresses smoothly and the labor market remains weak, I will advocate for a rate cut later this year.”

Regarding discussions about rate hikes at the Federal Open Market Committee, Waller said, “I am not speaking on behalf of my colleagues; I am just offering some theoretical perspectives.”

“If you think… for example, in December 2024, the overall PCE inflation rate is 2.8%. It’s roughly 2.8% now. So inflation has hardly changed during this period. If you worry it will rise from this level, some might say: ‘Look, we need to raise rates to bring inflation down and control it.’ But my view is: if in December 2024 it’s 2.8%, and now it’s 2.8%, that’s not structural. Because if it were structural, and you believe tariffs have already been passed through—say, 50 to 100 basis points—then inflation should be around 3.5% to 4.0%, not 2.8%.”

Waller pointed out that inflation is approaching 2%, “which is why I think once the second quarter passes, the impact of tariffs will fade, and inflation will come down. That’s because once the tariff effects are absorbed, only structural changes remain. If you believe it will rebound sharply, that’s another story. But based on the math I just explained, there’s no need to raise rates. Yes, we haven’t seen progress, but that’s because tariffs pushed it up, and structural factors pulled it down, balancing each other out.”

He sees tariffs as a one-time price level effect, not ongoing inflation. So, there’s no sign of inflation expectations becoming unanchored. Whether in market pricing or household surveys (which are volatile), market pricing does not show signs of expectations de-anchoring, even with persistently high inflation. He said markets understand the logic that “tariffs have been passed through,” and that potential structural inflation may have already declined. When tariff effects fade, inflation will decrease.

If tariffs’ impact persists and inflation rises, it will be a dilemma

“If by the second half of the year, tariffs’ effects haven’t faded and inflation starts to rise, then we face a dilemma: should we worry about inflation or risk a recession? Back in 2022, when I advocated aggressive rate hikes, I said a recession wouldn’t happen because the labor market was very strong—quite different from the current labor market,” he said. “So I will closely watch future labor market data to see if I should advocate for rate cuts at upcoming meetings. But I also need to monitor inflation.”

Regarding war’s impact on the economy, Waller said, “Historically, when unemployment rises, it tends to spike suddenly. I’ve always thought there’s some kind of ‘herding effect.’ If you’re a company on the edge, and you see everyone else laying off workers, you’ll do the same. This herd behavior causes unemployment to spike non-linearly. It only takes some coordinated shock to trigger this. I don’t know if this war, if it lasts for months, will be that trigger. When will consumers start to pull back? I mean, they look at their gas tanks, at oil prices, at how much they spend on cars versus other things, and that begins to influence their overall economic outlook. All these factors could eventually lead— I don’t want to say a recession— but the economy could weaken much more suddenly than we expect.”