Fed officials stress vigilance on inflation

St. Louis Federal Reserve President Alberto Musalem used a May 28 appearance in Reykjavik to underline the U.S. central bank’s focus on inflation and its readiness to adjust policy if price pressures do not ease. Speaking at an economic conference hosted by the Central Bank of Iceland and Northwestern University, he described a policy backdrop in which inflation remains above target and longer-term inflation expectations are drifting higher.

Musalem said he wanted to remove what he characterized as an “easing bias” in expectations for policy, stressing that current conditions call for vigilance rather than an assumption that rate cuts are imminent. His comments added to a broader discussion among Federal Reserve officials, including Fed Chair Kevin Warsh, about the outlook for inflation gauges and the implications for interest rates.

Musalem stated that the Federal Reserve may need to increase its policy rate if inflation does not resume easing within the next six months. He said, “If we don’t see disinflation in the next one to two quarters, that would concern me,” indicating that persistent inflation could trigger a reassessment of the current stance.

He noted that the real policy rate is sitting below the Fed’s notion of long-run neutral at a time when inflation is running meaningfully above target. With the labor market still described as stable and longer-term inflation expectations edging higher, Musalem argued that these conditions justify a cautious approach and openness to tighter policy if needed.

In his remarks, Musalem pushed back against the idea that potential productivity gains from artificial intelligence should factor heavily into current decisions to ease policy. He warned it would be risky to rely on expected AI-driven improvements as a solution to present inflation pressures.

According to Musalem, the combination of above-target inflation, drifting inflation expectations and a real policy rate below long-run neutral makes it inappropriate to lean on optimistic assumptions about future technology gains. Instead, he argued, policy should remain focused on restoring price stability based on observable data.

While emphasizing the risks around inflation, Musalem also outlined a conditional alternative path in which a rate cut later in the year could be appropriate. He said he could envision easing policy if economic growth slowed and labor-market conditions weakened.

Musalem balanced this possibility against his broader message of vigilance, stressing that any move toward lower rates would depend on clear evidence of softer activity and labor demand alongside progress on inflation. Until then, his comments suggested the Federal Reserve remains prepared to keep policy restrictive, with the option of tightening further if disinflation does not resume.