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our guest today is Patrick Harker who is the president of the Federal Reserve Bank of Philadelphia and we're going to
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talk to him about a whole lot of things including interest rates the economy and
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dynamicism in the US economy Pat thank you so much for joining us today on knowledge at
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Wharton know thank you for having me so let us start with what's in the news
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right now yesterday that's August 14th the stock markets really got hammered
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and the administration seems to think that everything that's going wrong with
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the economy is because of the Federal Reserve do you think that's true no so there are a lot of factors a lot
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of forces you know pro and con in the economy first start with just where the economy is things are pretty good if you
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look at the real economy not the markets the real economy and we can get into this it's doing quite well I think
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that said there are downside risks there are headwinds and that many of those are
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around trade and international policy obviously not in our policy wheelhouse back up a little bit we saw that the
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interest rates were were cut by the Fed for the first time in a very long time over eight eight years and I was
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wondering if you can explain what the some of the thinking behind that was so I have to give the standard Fed
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disclaimer I can't explain the thinking except my own thinking so these remarks are mine and no one
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else in the Federal Reserve System so this was a situation in my mind where we are getting back to what I would see is
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neutral and so in December we raised rates 25 basis points at that time I was not supportive of that move because I
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thought that we didn't need to do that and so I think we're just recalibrating
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back to where I thought we should have been not with the 25 basis point cut if you'd think about monetary policy going
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forward do you think that there are likely to be more interest rate cuts coming again I can only state my opinion
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I do not see more cuts in a foreseeable future I'd like to stay where we are
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which I believe is around the neutral rate for the economy see how a lot of these
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uncertainties and issues resolve themselves over the coming months before we'd make any other move an addition to
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interest rates what are some of the other instruments that you think the Fed has at its disposal to deal with all the
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issues and headbands that you said the economy is facing now right so the other main policy tools that we use during the
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crisis really for the first time were large asset purchases QE and forward guidance and I think we've gone through
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a process now led by Vice Chair clara de on looking at monetary policy in our framework and we've done this with town
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halls all around the country we had a major conference that the Chicago Fed just recently and I think out of that at
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the academic community the Fed economists we have some sense of what worked and what didn't all the tools
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work to some extent but one of the main tools at work was forward guidance that's just saying we when we're going
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to keep rates low and we're to keep them for a long time low until we see certain
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things like unemployment move and and and one more question before I turn it over to my colleague Steve do you think
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the feds how has the feds at all changed since the financial crisis I think the main
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change is not in the monetary policy side but in supervision and regulation with dodd-frank and other regulations we
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have become much more involved in protecting and sustaining the safety and soundness of the regulated financial
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services industry and that's through a variety of tools whether it's more
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capital at the banks of banks are now very well capitalized liquidity provisioning etc so I think that's been
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the major change yeah I wanted to follow up on what you said about the strength of the economy there's a obviously a lot
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of opinions out there sure and there's been a lot of talk about recession or
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impending recession you know in the news quite recently and so some of the stats
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that are being cited to support I guess the downside or the headwinds that you're talking about or for example
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second quarter GDP was revised down by a point 22.1% point one is not no negative
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but it's it's it's certainly going in the wrong direction capital spending is
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weak a lot of people think that's a big deal that's a that's a portent of what
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was ahead and also and that's despite the fact that corporations have they're
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sitting on a lot of cash and there was a big corporate tax cut and another is that exports are down there's there's
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many other factors that that those who think there might be a recession coming would cite so let's take that let's look
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at those factors first we'll start with the consumer seventy percent of GDP is
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the consumer consumer continues to be the hero of the American economy the spending continues to be quite solid and
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that's really due to the foundation of good jobs and we're still producing jobs
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well above what we need in steady state steady state is around 100 110,000 jobs a month we're still producing at 160
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thousand a month level so and wages are starting to rise not across all segments
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but particularly in low-income areas we're starting to see wages go up so you've got the fundamentals of the jobs
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the inflation is stable so those two things are dual mandate continue to be strong now GDP we have estimated now for
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quite a while will go back to trend growth trend growth is around 2% of the American economy the only way to move
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that trend growth has nothing to do with monetary policy we don't move that trend
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growth trend growth is output per labor our productivity and a number of labor hours more people we're starting to see
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productivity took up today we had a good number come in and but the one issue we
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hear constantly whether it's anecdotally or in our survey work or outreach work
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is companies need workers one of the limits to their growth is they don't have enough qualified workers for the
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jobs I wanted to ask also about China because that's been in the news a lot or
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there's all sorts of things going on with with the trade disputes and what's
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your view on how that's affecting the economy now is it holding it back to some degree I mean that that's
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another thing that people often cite as a headwind I'll go back to your questionnaire point about business
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investments if you're sitting in a corporate boardroom today and you're about to make a multi-billion dollar
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investment in plant and equipment and it's related somehow to trade would you
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do it I wouldn't uncertainty is it's not good for less it shows it that's the
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fundamental problem you just nailed it it's the uncertainty around this when I
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talk to companies that's all they want is some certainty around where we're
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going and think I mean I had one contact who was carefully thinking about moving
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his supply chain out of China to other countries one of those countries was Mexico and then all of a sudden we're
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going to impose tariffs on Mexico and he was exasperated he said I don't know how
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to make a decision in this environment so I won't that I think it's the fundamental problem with respect to
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business investment right now do you see that changing it just seems that every week there's there's something like that
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I hope it does I mean I hope we get some certainty because that would really help
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the economy the other had one I think is a global economy so you've got China's
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slowing in a way that we haven't seen for a number of years many years actually Germany is now not in recession
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but they've just had some negative growth if they have another quarter like that I guess by our definition that
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would be an official recession and then again the trade war what about this and and the IMF in July said that they
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revised their forecast Alfred no I think that is clearly one of the downside risk
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to the economy and take those two examples you just gave they're very different in the case of Germany they're
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an export-led country exports are very important to them much more than US economy so this trade bore is weighing
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on them heavily and obviously it's weighing on China - given they're in the same situation so I
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think we have to keep coming back to what are these sources of uncertainty and how do we resolve this they're not
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monetary policy issues no I wanted to get back to the neutral interest rate that you alluded to a little bit earlier
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because there's that's another area where a lot of controversy whether that
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neutral rate what the Fed or maybe what Pat Harker considers the neutral rate is
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at the right level some people think it should be lower they base that on a lot of different factors not least of which
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would be inflation of course so you're you're happy with the with the rate do
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you understand what credit white critics would say that it should be a lot lower
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well the main reason you answer that might guess the neutral real rate in a nominal rate that plus inflation it's
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not something we can observe we can only calculate it through models and so there's estimates vary a lot but they
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generally hover around zero or maybe slightly above zero so if you believe that but there's a lot of uncertainty
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I'm it granted there's a lot of uncertainty around those estimates but if you believe that and add on roughly a
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two percent inflation we're kind of there you know to two and a quarter we're kind of that's that's where we are
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that it but we could be wrong right I mean you always have to have a heavy dose of humility in these policy
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jobs and recognize that we have to be watchful to make sure that we're not over under accelerating the economy by
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the way I think the situation we're in right now I think moving the interest
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rates 50 25 basis points it's not going to have a major effect you mentioned earlier companies are
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sitting on lots of cash then they are not investing because the cost of capitals too high
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I hear none of that from anyone right same thing with consumers so I I just don't think that well I think we need to
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adjust technically like we did in the last meeting to stay around neutral I don't think these small changes are
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going to have a demonstrable effect on the economy that's interesting because
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there was a Fed study out of I think Minneapolis not that long ago which looked at the effect of lowering
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interest rates on on the corporate activity and I think the upshot was that interest rates have been so low for so
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long that that you know you're at the point where what's a quarter point is
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that that's not going to change a company's thinking around whether or not
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they're going to expand they're looking at other yeah exactly speaking of inflation there
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is there's been for years now we've been told by some economists that high
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inflation is around the corner these rates are too low it's going to overheat
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the economy and so forth and that the unemployment rate if it gets below 5% and 4% now we're below 4% that that's
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going to lead to wage inflation pressures and so far it's not happening does that mean that the Phillips curve
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doesn't work anymore or is it just something that's happening in today's
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economy that's different what is the new normal for interest rates you know based
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on inflation right so should we have a funeral for the Phillips curve yeah well it's been it's for a long time and not
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just recently it's been flat for decades now right and so part of that people are
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starting to conduct research and really try to understand why I mean what's really happening with inflation clearly
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technological innovation and other factors globalization are affecting this but also if you peel back the US economy
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and lump all goods and services into two categories cyclical and a cyclical that
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is think of it as prices that move with the economy and with interest rates and those who don't we're becoming
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increasingly dominated by big sectors of the economy where interest rate movement
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and the cycle doesn't have a big effect on pricing you just have to take health
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care here's almost 20 percent of the US economy where prices are centrally set
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by the government and so moving 25 50 basis points will have very little impact in the short to medium run in the
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long run it will right if interest rates move a lot because they have to build facilities and equipment and so forth
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but that short to medium-term impact of moving rates we're not seeing it and one of the potential reasons and
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I emphasize potential and there's more research that needs to be done is this
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fact that many of our goods in the economy right now and services are a cyclical in terms of their pricing
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what's your view of the idea around this that it's really a deficit of demand there's just not enough demand
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to to you know to reach full production full productive activity for the economy
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and that's why we're not seeing any inflation and that may be true if you
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expect particularly if you look at the global scene right so not just us productive capacity but globally I mean
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in certain sectors there probably is an oversupply right now that needs to be worked through it'll eventually be
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worked through them there's also this you know increasingly interesting development where there's something like
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15 trillion dollars where the financial instruments globally that havoc negative
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interest rates so right people are actually paying governments to hold money for them to keep it safe right
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what's your what's your view on that this is again you know relates to inflation or lack thereof it's also
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related to perhaps a lack of demand in places like Europe as we're just talking
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about and also what do you think can that happen here and what would what would be the result of that happening
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here so one thing you didn't mention is the yoke curve and the long end of the yield
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curve one of the most the most likely suspect in my mind of why the long end is continuing to be low is that in this
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world where people are looking for yield and safe assets they're buying Treasuries and it's the natural thing to
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do and so in that case it is going to affect the long end of the curve we don't really affect that long end in any
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meaningful way given the movements of the Fed Funds rate target I think so it's other global forces and
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economic forces that are moving that so I think that is definitely true that we're seeing this rush the safe
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assets the US Treasuries and that's a good thing in the sense that people still see us as a safe asset but it it
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does limit our ability to conduct monetary policy across the yield curve so does that mean that it's it's more a
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flight to quality than any predictor letter accession be on the way yeah I think well that's a no
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some recent commentary on this that I am very sympathetic to that I think the yield curve is an inversion in the yield
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curve is is a signal that is correlated with recessions but there's little theoretical or empirical evidence to say
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it actually is causal right so Park that there are a lot of other measures so you
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have to look at and we went through those jobs income etc that are continuing to be strong so I don't think
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you can just look at one measure and say well that then a recessions on its wedding so the original mandate for the
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Fed starts out with you know balancing unemployment and inflation like those those are the two poles that your record
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you're asked to be looking at all the time so we're in an economy where at
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least it looks like as we've been saying wrapping up all the things we've been
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talking about here that there's very little inflation and even though unemployment is very low we we thought
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it was low when it went under 5% we thought it was low at 4.5 we thought it was low at 4.3 so who's to say where are
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we 3.7 now if you if there's if there's not much risk of inflation why not
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reduce rates further and see how low can you go with unemployment and I would ask
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the the opposite why if if my hypothesis is correct that moving rates we don't have a lot of room
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to move rates moving rates 50 basis points is not going to have a demonstrable effect then it also creates
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other risks because there's a third component of the Fed not in our dual mandate but very important financial
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stability there is ample evidence that these rates being this low for this long start to create situations of financial
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instability the these issues of basically easy money that firms can get a hold of at covenant light - no
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covenant this is all being done essentially outside the regulated industry right and we don't have a
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direct tie to that because we're not responsible for that those parts of the financial
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services industry but they can potentially create a situation of instability and part of that and I'm not
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a fan of using monetary policy because it's a relative it is a very blunt instrument to control financial
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instabilities and asset valuations being too high I'm not a fan of that because
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it's hard to predict that said we if we can avoid trying to create the conditions make them even worse for such
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a situation we should last piece if you go back a couple of years ago when we started normalization what did we talk
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about we needed policy space we need a policy space so we needed in the good times to start raising rates so that
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when the bad times hit they will eventually we don't know when we have some policies base I don't see the
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argument for moving now to reduce policy space when in my opinion things are still pretty good that's what happened
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in December right - were reducing policies or you were trying to increase policy space yeah but at that point I
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think there was too much turmoil we it was in my view losses inappropriate to do it at that time so given that rates
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are so low and the things you're talking about make so much sense in that why
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should we lower it more or if you do lower it more it's not going to make that much difference the economy we
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talked about that do you and and if we do have a recession and rates were lower it reduces your
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policy space does are we asking too much of monetary policy is that and and and you know if we get into trouble with
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this economy you're you you're already limited because your your rates are
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pretty low as they are whether you go up business points are down fifth alright so is is there something wrong with the
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way we're trying to steer the economy by relying on just one propeller one maybe
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that we should have - one of my biggest and growing concerns and with respect to
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the economy is not in the monetary policy space so we have very limited policy space as
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you said on the monetary side increasingly we have have less and less on the fiscal policy side that's the
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tool that if you look back and as scholars have looked back on the Great Recession I think the one conclusion
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that is not accepted universally but widely accepted is we didn't do enough on the fiscal side right well think
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about right now this is a good economy and we're adding a trillion dollars a
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year to the federal debt and on top of that states have no wiggle room state after state given the pension
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liabilities that they have the unfunded pension liabilities they have no no room
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to move so when that shock negative shock hits the economy how much space do we really have on the fiscal side it can
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be very effective the evidence shows that it can be very effective we don't have it right now what do you think
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should be done again this is not my wheelhouse but I think we have to seriously think there's only two things
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you could do right the increased revenue or cut cost I mean and that and some combination of those things have to be
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dealt with so a couple of years ago when you had organized this wonderful conference at the Fed about FinTech we
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had spoken about crypto currencies right and one recent development in that regard has been Facebook's launch of
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libera yes its cryptocurrency how to see the difference between that and Bitcoin
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and I wonder if Facebook's version of cryptocurrency might be more acceptable
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to you know policy regulators then then Bitcoin so obviously the regulatory side
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is with the Board of Governors so I can only give my opinion so I think without getting into the details of Bitcoin and
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Libre I think there's a real advantage of having having a stable coin it's hard
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to have a currency that's bouncing around all the time so when you go to Starbucks you don't know
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somebody whatever coins you're gonna have to use that day and so clearly that
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is an area that will have an advantage over time that said I think and it's the
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only my opinion and I am I think I'm minority opinion on this right now I do
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think we the central bank and central banks around the world need to seriously start thinking about central bank state
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stable coin currency in my view it's inevitable technology is evolving it we're not gonna stop that but what we
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can do with a fiat currency we're the only ones that can do it I don't necessarily think we should be the first
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movers in that I think there can be some experimentation of other economies and other countries to try some certain
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things but I think we need to start to think about I don't think it's in the
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immediate horizon that we would do such a thing but I do think that it is inevitable and we should start
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contemplating it now so just to make sure I understand what you're saying correctly is this like a digital version
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of a fiat currency that you think central banks around the world should be trying to introduce yeah I mean look the
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vast majority of money in the world is digital right now it's central bank money and so it's not a great leap the
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difference is creating this kind of stable coin approach again I'm not sure how to do that I'm not sure when we
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would do it but at least we should start seriously thinking about it and with a few questions about a paper that you
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wrote sometimes I think it was last year about Dynamis ohm and it sort of ties to
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some of the things we've been talking about the economy do you think the dynamicism and the US economies and sort
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of long-term decline and if so why oh it's not I think I know I mean the evidence is pretty compelling though so
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we have this like the American story is filled with lots of sub stories and myths and and and that we have and we
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hold about the American Society of the American economy and these are important because they're
00:24:11
based on fact and we have this myth that we are this incredibly innovative dynamic economy and relative to many
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other economies we are so I think it if you think about relativism we are but if
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you look relative to our past or not business formation is not what it once was corporations are getting larger when
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corporations get larger they issue fewer patents and the research clearly shows us and also on the labor side we don't
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move like like we used to move right so one of the issues that often perplexes economist is if there's a community out
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there where the jobs went away why don't you just move to where the jobs are we
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don't do that and there's a lot of social reasons why we don't do that like
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we once did what are some of the main culprits well one is if I have an aging parent or my mom's taking care of my
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kids my dads take care of my kids and I can't afford daycare I can't move away I gotta fix so there's
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a lot of other issues plus there's some recent research that has been coming out
00:25:17
of Philadelphia that says you know we have this mythology of dynamism with respect to people moving that's really
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based on filling up the west and the south right but once they were filled up and a generation or two has stayed there
00:25:36
people have a preference for staying where their family is and where the roots are and that's a preference it's
00:25:43
not you can say it's not optimal from an economic perspective but it is because
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people have preferences and that's one of their preferences important preferences is not to uproot their
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family from their family their extended family so I think those factors are coming in at least on the labor market
00:25:59
on the business side it's a different story right I think there it's the we the
00:26:06
issue about competition is really important and creating competitive playing fields for
00:26:15
these and startups to succeed Salinas is though I think being driven by technology there are these network
00:26:22
effects I said they're not going to go away in certain industries but that doesn't explain all industries as did
00:26:29
you see this as an American problem or is it something that affects all the Chiricahuas
00:26:34
no I think it is starting to affect most mature economies but again we in u.s. have believed and rightly so from our
00:26:41
past that we had this highly dynamic economy when you get under the hood it's
00:26:47
not that way and there are things we can do to restate that on the policy front that I think are important that that was
00:26:56
going to be my next question which is if you could wave a magic wand to restore Dynamis ohm to the American economy and
00:27:02
other mature economies what would you do competition policy making sure that firms have a competitive playing field
00:27:09
that they can sink or swim on that and they can succeed on the dynamism with respect to labor markets I think there's
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a whole host of other issues there whether it's social programs with respect to things like child care and
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elder care and a whole host of other things that we could think about could you give an example of the competitive
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policy that you're talking about that would be better than what's going on now
00:27:34
I think just simply antitrust policies I mean reinforcing them in certain industries so you're saying there's too
00:27:43
much concentration and again I will say that a blanket statement that that's
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true across all industries but I think in certain industries that's that's
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quite possible what about research and development do you think that there's
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enough being spent I know that industry spends quite a bit on research and development but over you know any number
00:28:04
of decades the the the percentage that the government spends on R&D basic R&D
00:28:10
which often leads the big break for us has gone down quite a bit do you see a role for government yes
00:28:18
increasing spending in R&D like quite a bit yeah absolutely I mean the big shift
00:28:22
that's happened over the course of several decades is companies aren't spending as much on R&D
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there's no more Bell Labs but I at that scale now that was a different story
00:28:33
with a monopoly who could afford to do those things that's understandable but
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it shifted from the company the basic Rd to universities and university funding and with the bayh-dole act universities
00:28:46
then had an incentive to want to commercialize this because they could get an economic benefit from doing so
00:28:51
before that act they couldn't so it really is the universities do the basic R&D startups come out of the
00:28:58
universities grab it that startups most often don't expect to be an operating
00:29:03
concern going forward they're looking to sell their technology to get on to a
00:29:07
platform where they can integrate that technology that's a reasonable thing to
00:29:12
do but it all starts like you just said with the basic R&D funding because you
00:29:17
know there's a very good book out about this recently I think it's called
00:29:20
jump-starting AmeriCorps jump-starting America's economy by Simon Johnson he's
00:29:25
a former chief economist at the I am right and it was his point which is that during the boom years of the 50s and
00:29:32
coming out of World War two there was this great partnership between universities and business and and and
00:29:39
the government would help fund a lot of fundamental basic research which might take 20 years to come to fruition what
00:29:45
companies can't afford to wait 12 years they need to they're looking at the next
00:29:49
quarter the next year and so that that is a piece of R&D that has been kind of
00:29:54
lost so no one's taking it so no one's taking those long bets only the government could do that because they
00:30:00
can afford to to say well we don't it's okay if it's not private so yeah it's
00:30:04
not like it's not happening I'll give you one example where it's happening
00:30:06
right now quantum computer I mean the government is heavily involved through the National Institutes of Standards and
00:30:12
Technology and other agencies and bringing together consortium of companies to really do almost what the
00:30:20
moon launches I mean we know we need to build these machines there's a competitive race around the globe to
00:30:27
build these machines we don't actually know how yet there's a lot of problems
00:30:31
to be solved between here and there and so the government is convening along with nonprofit institutions and
00:30:39
incorporate a group to try to figure out exactly how to do this that so when the big issues
00:30:47
like that come up we actually can act so I think we need to do more of that so we
00:30:52
can really push the needle on the really hard technical issues right to create truly new products into the marketplace
00:31:02
it's interesting because another I guess aspect of this is the idea that you know
00:31:09
we're in a trade where with trying to win our current Dean here at Wharton has
00:31:13
made the arguments in various opinion pieces that we've run saying that it's
00:31:16
it's actually a race for technology like who's going to be the technological
00:31:19
leader and these the the the trade aspect of it is is some fallout that comes from that but that's kind of the
00:31:26
guiding principle I think right and so and what's different is that of course
00:31:31
China is you know it's more of a top-down situation they can they can spend a lot of money on research for
00:31:37
this long-term research that we're saying we're not doing here and so that
00:31:41
might be another way of if you see that as a key competition going on the you know increasing R&D might be another way
00:31:50
to level that playing field with that government spending on R&D yeah well I
00:31:55
think nobody's willing to take the risk that these long live you know long gestation period technologies that's the
00:32:03
role of the government that because a lot of that's is gonna fail but you're
00:32:07
just not gonna you can see that even here on this campus with immunotherapy I mean it took a long time to bring this
00:32:15
to market and now it's exploding on the scene in healthcare it's changing the
00:32:19
very nature of healthcare and so but that started with NIH funding at a very basic level to move the needle no
00:32:29
company was going to do that you need the government and one of the going back to our earlier conversation one of the
00:32:35
things I do worry about is the crowding out effect so given that if you just take defense entitlements and interest
00:32:41
on the debt that's the vast vast majority of the federal budget that everything else is getting squeezed and
00:32:47
that has to be well so so Pat thank you so much for for speaking with knowledge at Wharton
00:32:55
really appreciated I thank you for more insight from knowledge at Wharton please
00:33:02
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