St. Louis Fed’s Bullard Presents “The Prospects for Disinflation in 2023”

ST. LOUIS – Federal Reserve Bank of St. Louis President James Bullard presented “The Prospects for Disinflation in 2023” (PDF) on Thursday at an event hosted by CFA Society St. Louis.

Bullard noted that GDP growth appears to have improved in the second half of 2022 and the labor market performance remains strong. Inflation remains too high but has declined recently, he added.

While the policy rate is not yet in a zone that may be considered sufficiently restrictive, it is getting closer, Bullard said. In addition, front-loaded Fed policy has helped market-based measures of inflation expectations return to relatively low levels, he continued.

“These factors may combine to make 2023 a disinflationary year,” Bullard said.*

GDP Growth Improves

“Real GDP growth now appears to have been stronger in the second half of 2022 than previously thought after puzzling readings in the first half of 2022,” Bullard said.

Third-quarter 2022 real GDP growth is now estimated to have been 3.2% at an annual rate, and fourth-quarter 2022 tracking estimates now suggest the economy grew at an above-trend rate as well, he said. Year-on-year growth is slowing, according to incoming weekly data, and the output gap remains positive, he noted.

“Perhaps the best interpretation is that real GDP growth is slowing to be in a neighborhood just below the potential growth rate of about 2% on a year-on-year basis after stellar growth in 2021,” Bullard explained.

Labor Market Performance Remains Strong

In discussing the performance of the labor market, Bullard noted that the number of job openings per unemployed worker remains at a high level and that unemployment insurance claims in 2022 generally remained at levels below those experienced during pre-pandemic years.

“Viewed in historical perspective since the 1980s, the current labor market situation is unprecedented, with measures of labor demand significantly exceeding measures of labor supply,” he added.

Inflation Remains Too High but Has Declined Recently

Bullard noted that the Federal Open Market Committee (FOMC) has a 2% inflation target specified in terms of headline personal consumption expenditures (PCE) inflation. Headline inflation has declined, but it can be inordinately influenced by fluctuations in energy and food prices, he said.

Measures of inflation that strip out volatile price movements, such as core PCE inflation and the Dallas Fed’s trimmed mean inflation measure, have also declined but by less than the headline measure, he explained.

He also noted that inflation expectations are back to relatively low levels.

“In part due to front-loaded Fed policy during 2022, market-based measures of inflation expectations are now relatively low,” Bullard said. “According to standard macroeconomic theories, inflation expectations are a key determinant of actual inflation.”

Policy Rate Is Closer to Sufficiently Restrictive

Bullard then discussed an updated version of a chart developed for a talk he gave in November. The chart shows a zone for one conception of a “sufficiently restrictive” policy rate, along with the actual level of the policy rate. The policy rate isn’t yet in this zone but is getting closer, he noted.

“It now appears that the policy rate will move into the sufficiently restrictive zone during 2023,” Bullard said.

2023: A Year of Disinflation?

Bullard said the real side of the economy seems to indicate GDP growing faster than previously thought during the second half of 2022 plus a labor market with unemployment below its longer-run level. “A natural forecast is that the pace of quarterly growth will now moderate and unemployment will rise to return to its longer-run level,” he continued.

Bullard noted the FOMC has taken aggressive action during 2022, with ongoing increases in the policy rate planned for 2023. This action has returned inflation expectations to a level consistent with the Fed’s 2% inflation target.

“During 2023, actual inflation will likely follow inflation expectations to a lower level as the real economy normalizes,” he said.

*Note: Disinflation refers to a decrease in the rate of inflation toward the Fed’s 2% inflation target.