Federal Reserve's "Hawk" Voice Rises Again: Asset Price Crash Risks Become a Hurdle to Rate Cuts

Wu Yu, Jin10 Data

Concerns over financial market stability, including the risk of asset prices plunging sharply, are becoming a new focus among Federal Reserve officials when discussing the timing of rate cuts or even whether to cut rates.

In a speech at Georgetown University on Thursday, Federal Reserve Board member Lisa Cook did not specifically comment on recent monetary policy.

However, she listed a series of risks to the financial system, including the rapidly growing private credit market, hedge fund trading in government bonds, and the application of generative artificial intelligence in algorithmic trading.

Cook also hinted that she wouldn’t be surprised by a crash in asset prices at their all-time highs—which underpin overall consumer spending and the broader U.S. economy—despite the fact that such a decline does not necessarily signal financial market instability. “Right now, my sense is that the probability of a significant decline in asset prices has increased.”

Earlier in another occasion, Cleveland Fed President Beth Hammack reiterated her opposition to further rate cuts, citing the still-high inflation and stating that loose financial conditions are another reason to oppose rate cuts.

While rate cuts might be viewed as “buying insurance” for the labor market, she said, “We should remember that this insurance could come at the cost of exacerbating financial stability risks.”

Like Cook, she said she believes the financial system is in good shape, with banks well-capitalized and household balance sheets robust. But like Cook, Hammack also indicated she is monitoring hedge fund leverage levels and finds private credit worth watching.

Both statements echo broader concerns among Fed policymakers, as emphasized in the minutes of the October Fed meeting released on Wednesday.

“Some participants commented on the high valuation of financial market assets, with several emphasizing the possibility of disorderly declines in stock prices, especially if the market suddenly re-evaluates artificial intelligence-related technologies,” the minutes stated.

The debate among policymakers mainly revolves around whether another rate cut would cause inflation, which has been above the Fed’s 2% target for years, to further drift in the wrong direction, or whether the more urgent concern is the weakening labor market that requires further easing by the Fed.

On Thursday, two Fed officials known for their hawkish stance again expressed concern about inflation.

Federal Reserve Board member Michael Barr said on Thursday that the Fed needs to be cautious when considering further rate cuts.

“I am concerned that the inflation rate we see remains around 3%, while our target is 2%, and we are committed to reaching that 2% goal,” Barr said. “Therefore, we need to be cautious with monetary policy now because we want to ensure that we achieve both sides of our dual mandate.”

Barr did not oppose another rate cut but his concern about stagnant inflation will make Jerome Powell’s job more complicated as he tries to reach consensus among divided policymakers before the December 9-10 Washington meeting.

Barr supported the Fed’s rate cuts in September and October but has not yet signaled for December. His vote could be crucial as several of his colleagues have openly supported or opposed a third consecutive rate cut, making the outcome highly uncertain.

In another appearance in Indianapolis, Chicago Fed President Austan Goolsbee said he remains worried about a rate cut in December.

Inflation “seems to have stalled, if not worsened, with warnings of a move in the wrong direction,” Goolsbee said. “That makes me a bit uneasy.”

After a lengthy government shutdown, the Fed finally received new official employment data, but so far, these data have not significantly resolved divisions among policymakers. The Labor Department’s September employment report released Thursday showed a mixed picture: employers added 119,000 jobs—the best since April—but August data was revised downward, and the unemployment rate rose slightly to 4.4%.

After the data was released, Barr said he believes the labor market is “softening to some extent,” with job creation approaching what is called a “break-even” level, meaning the level of employment needed to keep the unemployment rate stable.

Hammack called the September employment data “outdated” and reiterated her opposition to additional rate cuts. “Lowering interest rates to support the labor market could prolong the period of high inflation and encourage risk-taking in financial markets. This means that when the next recession occurs, it could be larger and have a greater impact on the economy,” she said.

Following the data release, traders maintained their previous expectations: if no data show a decisive collapse in the labor market, the Fed is likely to skip rate cuts in December and then cut 25 basis points again in January. The Labor Department will not release another comprehensive employment report until a week after the December Fed meeting.