Larry Summers Says Fed Has To Raise Rates Enough That, At Some Point, The Economy Suffers Downturn: 'Mistake To Be Distracted By The Wiggles'

The softer-than-expected June non-farm payrolls data has polarized economists, with some suggesting the Federal Reserve should stall rate hikes to avert a recession. Former Treasury Secretary Larry Summers, however, sees the need for more tightening.

What Happened: The data released last week is reflective of “hot numbers,” said Summers in an interview with Bloomberg that aired on Friday. The rate of job creation is twice as great as the growth in the number of adults in an already overheated economy, he said.

“That’s not consistent with bringing inflation down to its target level,” Summers said. He also noted that the wage data is pointing to inflation way above the Fed's target.

Although the unemployment rate of the non-farm payrolls report came in at 3.6%, other labor market indicators released this week — including the quit rate, the level of vacancies, the layoff rate and the insured unemployment rate — point to an even tighter unemployment rate than the 3.6%, Summers said.

“So I think we’ve got an economy that is currently very strong, not sustainably strong in terms of the rate of job creation,” the former Treasury official said. Given that strength, inflation and indicators of forward inflation continue to be well above target, he added.

“Once again, the Fed has underestimated inflation for basically the eighth quarter in a row,” Summers said.

“They’ve been surprised on what has happened to inflation, and because they are surprised on what’s happening with inflation and the strength of the economy, they’re going to be surprised by what they have to do to interest rates,” he added.

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Summers said there has been an appropriate adjustment in the medium-term interest rates and there is likely to be further adjustment as data continues to come in, adding, “I think it’s a mistake to be distracted by the Wiggles.”

“If you step back to the bigger picture, nobody thinks we can continue indefinitely to create jobs twice as fast as the adult population grows,” the economist said. The labor market could get tighter and, in turn, inflation could remain high, he said.

Can Inflation Be Tamed? The reason that it’s taking longer to bring inflation under control is that measures to tackle inflation started late, Summers said.

“Given how late we started, we didn’t move sufficiently because we believed mistakenly that the neutral interest rate was still very low and we believed mistakenly that raising interest rates would have large impacts on the economy that was greater than the impacts of interest rates,” Summers said.

Inflation remains well above target because the economy hasn't seen a significant slowdown in economic activity, the economist said.

Summers said that the best guess is that the Fed will have to raise rates more. He added that, if the Fed wants to see inflation get back to its target, the central bank is going to have to raise rates enough that at some point the economy suffers a downturn.

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