Federal Reserve Governor Waller stated on Friday that the war in the Middle East could lead to a short-term increase in inflation, posing a severe challenge for monetary policymakers. However, he also indicated that if the situation can be resolved quickly, there remains a possibility of rate cuts later this year.
In a speech text at Auburn University, Waller said, &#34;The longer energy prices remain high and the blockage of the Strait of Hormuz continues, the greater the risk that inflation will spread across various goods and services, and the impacts on supply chains will gradually become apparent, leading to a slowdown in real economic activity and employment.&#34;
He pointed out that if high inflation coincides with weak employment, he would have to seek a balance between the risks of the Federal Reserve's dual mandate to determine the appropriate policy path. If the risk of inflation outweighs the risks in the labor market, this could mean keeping the policy interest rate unchanged within the current target range.
He added that if the conflict can be resolved quickly, he expects core inflation to continue to approach 2%, which makes him cautious about rate cuts at present, but he is more inclined to support the labor market through rate cuts once the economic outlook stabilizes later this year.
Waller noted that there is considerable uncertainty in the current situation, and the Federal Reserve is increasingly finding it difficult to ignore economic shocks that are typically considered temporary. In the face of continuous shocks, policymakers need to remain more vigilant, as a series of shocks could keep inflation elevated for an extended period.
In terms of recent outlook, Waller expects the overall Personal Consumption Expenditures (PCE) price index to reach 3.5% in March, well above the Federal Reserve's 2% target. He also stated that changes in the labor market mean that the number of new jobs needed to maintain a stable unemployment rate is close to zero, so a decline in employment in any given month does not necessarily indicate an economic recession.
Waller's remarks may be the last public statement on monetary policy by Federal Reserve officials before entering a quiet period ahead of the Federal Open Market Committee (FOMC) meeting on April 28-29. There is widespread expectation that this meeting will maintain the current interest rate target range of 3.5% to 3.75% while continuing to assess the impact of the Middle East war on the economy.
Due to the rapidly changing situation of the war initiated by President Trump and Israel against Iran, Federal Reserve officials have been reticent about the future direction of interest rates. This conflict has led to a surge in energy prices, exacerbating already elevated overall inflation, while also posing a significant risk of further increases in core inflation (which is also above the Federal Reserve's 2% target).
New York Fed President Williams stated on Thursday that he expects overall inflation to be significantly above 3% in the coming months. Given such uncertainty, now is not the time to provide strong forward guidance.
Waller made these comments amid the rapidly evolving situation. If the latest diplomatic efforts can continue to progress, the economic outlook may become more optimistic.
On Friday, Iran announced that the Strait of Hormuz is fully open for passage during the ongoing ceasefire, although Trump stated that the U.S. would continue to impose a blockade on Iranian ports. Oil prices plummeted, stock markets rose, and investors raised their expectations for the probability of rate cuts by the Federal Reserve within the year
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Federal Reserve Governor Waller stated that the Middle East war could temporarily raise inflation and pose challenges for monetary policy, but if the situation calms quickly, interest rate cuts are still possible. He pointed out that high energy prices and disruptions in the Strait of Hormuz will increase inflation risks, affecting economic activity and employment. Waller expects the PCE price index to reach 3.5% in March, above the Federal Reserve's target of 2%. His remarks may be the last public statement before the FOMC meeting, where the market widely expects interest rates to remain unchanged at 3.5% to 3.75%

- Federal Reserve Governor Waller indicated that the ongoing Middle Eastern conflict may raise inflation in the short term, posing challenges for monetary policy.  
- He noted that if inflation risks surpass employment market concerns, maintaining the current policy rate may be necessary, while a quick resolution to the conflict could lead to a cautious interest rate cut later this year.  
- Additionally, Waller expects the PCE price index to reach 3.5% in March, significantly above the Fed's 2% target, highlighting the growing uncertainty around economic impacts from the conflict.

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Federal Reserve Governor Waller: If the Middle East war ends quickly, interest rate cuts are still likely to continue