I appreciate the chance to discuss economic matters today, Bruce. It’s wonderful to be back in Sydney, reconnecting with familiar sights and friends, particularly the iconic Opera House!

Observing the current state of the U.S. economy, I find that while the real economy is maintaining health, our journey toward reducing inflation has been uneven and sporadic. Despite promising inflation data from November and December, January’s report fell short, indicating that our progress in achieving our inflation targets remains inconsistent. I believe that the existing monetary policy is somewhat curbing economic activity and exerting downward pressure on inflation. If this winter slowdown in progress mirrors last year’s, we may need to consider further easing of our policy. However, until we gain clarity, I prefer to keep interest rates unchanged for now.

Consumer and business spending has shown resilience, evidenced by a solid growth in real Gross Domestic Product (GDP). Recent employment statistics, along with updated forecasts for much of 2024, suggest that the labor market remains robust. However, last week’s January inflation figures evoked concerns similar to those following the January 2024 reports, unexpectedly skewing higher and raising fears about stagnating progress toward our 2% inflation goal. Yet, following the first quarter of last year, we witnessed continued improvements in inflation during the remaining months. The pressing question is whether we will see similar advancements later this year as we did in 2024.

Monitoring inflation trends is crucial for policymakers when assessing the need for short-term adjustments in monetary policy. The sustained strength of the labor market was a significant factor in my support for the Federal Open Market Committee’s (FOMC) decision in late January to maintain the current policy rate. Following robust inflation reports in November and December, there were understandable concerns about a rebound in January. Based on solid labor data and potential seasonal influences not fully captured in the overall data, I deemed it wise to keep our stance steady during our January meeting. The latest inflation report substantiated this caution.

I want to take a moment to address the discussions following the FOMC meeting regarding uncertainties surrounding the new Administration’s policies as a key reason for our decision. It’s important to acknowledge that some degree of uncertainty about economic policy is always present. Our actions must be guided by the data we receive, even amid significant economic uncertainty. This has been our approach in the past, and it will continue to guide us moving forward.

Two noteworthy instances illustrate instances where the FOMC acted amidst considerable uncertainty. In March 2022, inflation was surging, and while interest rate hikes were being considered, geopolitical tensions escalated with Russia’s invasion of Ukraine, creating global economic uncertainty. During that period, the FOMC raised the policy rate for the first time since 2019 and continued with substantial hikes in subsequent meetings, demonstrating that we could not hold off due to geopolitical uncertainty.

Similarly, in March 2023, challenges arose in the U.S. banking system, partially triggered by the collapse of Silicon Valley Bank and Credit Suisse just before our March FOMC meeting. This situation spurred apprehensions about potential financial instability and credit contraction, leading to forecasts of an imminent recession in late 2023. While various voices urged the suspension of policy rate hikes due to widespread economic uncertainty, the Federal Reserve collaborated with other government agencies to stabilize the banking sector while continuing to combat inflation with policy rate increases. This reinforces the idea that we cannot simply pause monetary policy while awaiting clarity during such uncertain times.

Setting uncertainty aside, let’s focus on the current economic data. As noted, real GDP experienced solid growth in the fourth quarter at 2.3%, and this figure would have been stronger by nearly a percentage point without the volatile inventory declines. Personal consumption expenditures (PCE), which typically represent around two-thirds of GDP, saw a strong increase of 4.2% during the same period. As highlighted in the Fed’s latest Monetary Policy Report to Congress, households possess considerable liquid assets to support their spending. Preliminary data for the first quarter of 2025 indicates that this robust growth is holding steady. The January employment report, which I will delve into shortly, underscores the strength of the labor market, which will support consumer expenditure. While retail sales dipped in January following a significant increase in December, this fluctuation is not overly concerning given the data’s inherent volatility and the likely impact of cold weather on January sales. Business sentiment, illustrated through purchasing manager surveys in both manufacturing and non-manufacturing sectors, remains notably positive, with the manufacturing index surpassing 50 for the first time since October 2022, indicating expansion in orders, production, and employment. Moreover, forecasts from the Blue Chip consensus and the Atlanta Fed’s GDP Now model predict growth consistent with the end of last year. Revisiting my earlier point, while some anticipated that tariffs proposed by the Administration on February 1 would significantly influence trade and consumption in the first quarter, the postponement of certain tariffs leaves uncertainty regarding their eventual impact on the data. I will continue to monitor this closely but have yet to modify my outlook based on current implementations.

As previously mentioned, the labor market is exhibiting strength, with employers now finding it easier to fill positions compared to earlier in the economic expansion, while still demanding new workers and creating new job opportunities. The unemployment rate has dipped to 4 percent, maintaining a consistent level over the past year. In January, employers added a net total of 143,000 jobs, a decrease from the average of 204,000 recorded in the final quarter of 2024 but aligning close to the average of 133,000 from the previous quarter. Two factors potentially impacting these figures could be the recent cold weather and fires in Los Angeles, affecting thousands of individuals’ ability to reach their jobs. Beyond job numbers, the ratio of job openings to unemployed individuals stands at 1.1, a level akin to pre-pandemic standards.

Wage increases have remained strong and have outpaced price hikes significantly, although growth has moderated compared to two years ago. Current data do not suggest that wages are hindering progression towards the 2 percent inflation goal. While January’s average hourly earnings reading appeared elevated, this figure is subject to volatility and may have been influenced by weather-related disruptions. When we smooth through monthly fluctuations, wage growth has remained relatively stable at around 4 percent over the last year. Broader measures of worker compensation have shown a more notable moderation; the Labor Department’s employment cost index has gradually decreased from 4.2 percent at the close of 2023 to 3.8 percent in the most recent reading.

In terms of the compatibility of 4 percent wage growth with a 2 percent inflation target, it’s crucial to note that productivity growth has averaged approximately 2 percent annually since the onset of the pandemic, with slightly faster rates in 2023 and 2024. Unless there are significant shifts in productivity trends, this wage growth is aligned with achieving the inflation target of 2 percent.

Regarding inflation itself, the recent data, while slightly disappointing, is not as alarming when viewed in context. January’s total CPI inflation registered at 0.5 percent, with core inflation at 0.4 percent, resulting in 12-month changes of 3.0 percent and 3.3 percent, respectively. Although these figures represent improvements compared to January 2024, they still exceed our desired levels.

Additionally, we received producer price data last week, and when combined with the CPI figures, estimates for January PCE inflation look less concerning. Projections for total PCE inflation, which is the FOMC’s favored indicator, hover around 0.3 percent, with core PCE inflation estimated at about 0.25 percent. This trajectory indicates a modest uptick in core inflation’s monthly pace from readings below 0.2 percent seen in November and December. Consequently, the 12-month and 6-month average core PCE inflation rates are roughly 2.6 percent and 2.4 percent, respectively. While lower than the January 2024 levels—indicative of progress—the pace of inflation reduction has been slower than anticipated in reaching the 2 percent target.

As policymakers, we depend on this data to gauge our proximity to the inflation goal. I am carefully considering these recent figures, particularly given a recurring trend of elevated inflation readings at the start of the year. This raises questions about the presence of “residual seasonality” in inflation data, implying that statisticians might not have fully adjusted for seasonal price fluctuations. Many companies typically reset their prices at the year’s beginning, and while the Commerce Department attempts to account for this, many economists agree that some seasonal distortions persist. Interestingly, new research from the Fed indicates that inflation during the early months of the year has been higher than in the latter half in 16 out of the past 22 years. I will remain vigilant about this pattern and closely observe the data over the coming months to determine if we are experiencing another instance of high first-quarter inflation potentially followed by lower levels later in the year.

Before addressing my monetary policy outlook, I want to touch on a topic that has sparked debate: the divergence between long-term interest rates and the FOMC’s policy rate since we began reducing rates in September. While the FOMC has lowered the policy rate by 100 basis points during this period, yields on the benchmark 10-year Treasury have notably increased. In principle, long-term rates should correlate with the anticipated trajectory of the FOMC’s overnight policy rate. However, this relationship is predicated on the classic economic assumption of “all other factors remaining constant.” The yield on the 10-year Treasury, traded in a deep and liquid global market, is influenced by numerous factors beyond the control of the FOMC, making the connection less straightforward.

A prominent historical instance highlighting this divergence occurred during the mid-2000s when the FOMC raised the policy rate by 425 basis points from 2004 to 2006 but witnessed minimal movement in Treasury yields. This surprising phenomenon was termed a “conundrum” by then-Fed Chairman Alan Greenspan. Concurrently, future Chair Ben Bernanke identified a “global savings glut” that was bolstering demand for Treasury securities, which exerted downward pressure on yields. This case illustrates how various factors not controlled by the FOMC can cause long-term Treasury yields to diverge from expected policy rate movements.

So, what implications does my economic outlook carry for monetary policy? The labor market is displaying remarkable resilience and balance. If you want a model of a stable labor market at optimal employment levels, what we are witnessing now is a prime example. However, on the flip side of the FOMC’s mandate, inflation remains significantly above our target, with painfully slow advances over the past year. This suggests we should maintain a restrictive policy stance to drive inflation down to our goal, yet that stance should transition toward a neutral stance as inflation approaches 2 percent, enabling the labor market to remain healthy.

For the time being, I believe it is appropriate to pause rate cuts. If the labor market continues to maintain its balance, I can afford to wait and see if the higher inflation figures from January moderate, as they have in preceding years. Should that occur, I will need to assess whether this is indicative of residual seasonality that may resolve later in the year or if some different issue is persistently influencing inflation. Regardless, current data does not support a policy rate reduction at this stage. Nonetheless, if 2025 mirrors the trajectory of 2024, we could consider rate cuts as appropriate later this year.

As we await further data to better understand the economy’s alignment with our goals, we’ll also gain insights into Administration policies. My preliminary belief is that any tariffs enacted will likely lead to only modest, non-persistent price increases. Therefore, I recommend that we set our monetary policy while looking beyond these effects. Of course, I acknowledge that the impact of tariffs could exceed my expectations, depending on their size and implementation. However, it is also important to remember that other policy discussions could yield positive supply outcomes, exerting downward pressure on inflation. Ultimately, our policy actions should be driven by data rather than speculation about potential future developments. If incoming data warrants further rate cuts or advocates for a pause, we should follow through, irrespective of the clarity surrounding the Administration’s policy framework. Delaying action due to economic uncertainty can lead to policy stagnation.

1. The opinions expressed here are my own and do not necessarily reflect those of my colleagues on the Federal Reserve Board or the Federal Open Market Committee. Return to text

2. Refer to my March 2022 speech for insights on how the Federal Reserve manages financial stability and macroeconomic stability using a variety of tools. Speech by Governor Waller on the economic outlook – Federal Reserve Board. Return to text

3. For a comprehensive discussion regarding residual seasonality in inflation data, see the work by Ekaterina Peneva and Nadia Sadée (2019), “Residual Seasonality in Core Consumer Price Inflation: An Update,” FEDS Notes (Washington: Board of Governors of the Federal Reserve System, February 12). Return to text