Fed's Musalem: Caution still warranted on inflation
St. Louis Federal Reserve (Fed) President Alberto Musalem struck a cautious and hawkish tone on Thursday, warning that inflation pressures remain elevated despite growing optimism around artificial intelligence and productivity gains.
Musalem said the Fed’s real policy rate remains below the longer-run neutral rate, while longer-term inflation expectations appear to be drifting higher. He stressed that policymakers need to remain focused on returning inflation to the Fed’s 2% target and argued that caution is still warranted given ongoing upside inflation risks.
On AI, Musalem said the data on productivity gains remain inconclusive and warned it would be risky to rely on future productivity improvements to solve today’s inflation problem, particularly while demand pressures remain strong. Still, he added that he would be prepared to adjust his policy views if clearer evidence emerges that stronger productivity growth is helping ease inflation pressures.
Overall, the remarks reinforce the Fed’s broader higher-for-longer narrative and suggest policymakers remain more concerned about inflation persistence than near-term growth risks.
Inflation FAQs
Inflation measures the rise in the price of a representative basket of goods and services. Headline inflation is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core inflation excludes more volatile elements such as food and fuel which can fluctuate because of geopolitical and seasonal factors. Core inflation is the figure economists focus on and is the level targeted by central banks, which are mandated to keep inflation at a manageable level, usually around 2%.
The Consumer Price Index (CPI) measures the change in prices of a basket of goods and services over a period of time. It is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core CPI is the figure targeted by central banks as it excludes volatile food and fuel inputs. When Core CPI rises above 2% it usually results in higher interest rates and vice versa when it falls below 2%. Since higher interest rates are positive for a currency, higher inflation usually results in a stronger currency. The opposite is true when inflation falls.
Although it may seem counter-intuitive, high inflation in a country pushes up the value of its currency and vice versa for lower inflation. This is because the central bank will normally raise interest rates to combat the higher inflation, which attract more global capital inflows from investors looking for a lucrative place to park their money.
Formerly, Gold was the asset investors turned to in times of high inflation because it preserved its value, and whilst investors will often still buy Gold for its safe-haven properties in times of extreme market turmoil, this is not the case most of the time. This is because when inflation is high, central banks will put up interest rates to combat it. Higher interest rates are negative for Gold because they increase the opportunity-cost of holding Gold vis-a-vis an interest-bearing asset or placing the money in a cash deposit account. On the flipside, lower inflation tends to be positive for Gold as it brings interest rates down, making the bright metal a more viable investment alternative.
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