Federal Reserve: We got it ‘wrong’ on post-crisis rate hikes

Some key members of the Federal Reserve are admitting they may have gotten it wrong when the central bank boosted interest rates in the wake of the Great Recession. Yahoo Finance’s Alexis Christoforous, Brian Sozzi, and Brian Cheung discuss.

Video Transcript

BRIAN SOZZI: All right, some key members of the Federal Reserve are admitting they may have gotten it wrong when the central bank boosted interest rates in the wake of the Great Recession. Yahoo Finance Fed Correspondent Brian Cheung is here with us now. Brian, what's the scoop here?

BRIAN CHEUNG: Well, current and former Federal Reserve officials are saying they may have jumped the gun when they began raising interest rates. We have to rewind to 2015 for the first time they raised interest rates after the 2008-2009 financial crisis.

Now, at the time that they raised rates unemployment was at 5.1%. But Federal Reserve officials at the time worried that the labor market was tightening too fast and that the economy may have been actually at risk of overheating with inflationary pressures maybe on the way.

Now, if you fast-forward to the beginning of this year, you'll know that wasn't the case. Unemployment continued to decline to a 50-year low of 3.5% before the COVID-19 crisis. And there was essentially no inflation as a result of that. It continued to run below the Federal Reserve's 2% target.

So you have Vice Chairman of the Federal Reserve Richard Clarida speaking at the beginning of this week, saying that the models had been, quote, "wrong" to expect excessive inflationary pressures during that time.

Then you had Lael Brainard, the Fed governor, speaking yesterday saying there was no need to preemptively raise rates. And even the Former Fed Chair during that time, Janet Yellen, said the Fed probably could have waited a little bit longer to raise rates.

Now, this is a rare moment of humility, all spurred by that change announced by Chairman Jay Powell last Thursday, saying that the Federal Reserve was going to change its thinking to actually allow the central bank to overshoot its 2% inflation at times.

So again, a rare moment of humility. But it is tied to this new change in thinking that the Fed says, hey, we might be OK with letting inflation go moderately above its 2% target, as long as that makes sure that the labor market can also pull in more workers.

ALEXIS CHRISTOFOROUS: We're not used to the Fed admitting stuff like that, Brian. You're right. But I mean, it's maybe not a fair question, because we're in this extremely unusual situation of a pandemic. But would our economic picture be different today if they hadn't raised rates back then?

BRIAN CHEUNG: It's definitely possible. And that's where the diverging views kind of come in. So you had Janet Yellen speaking yesterday saying, on one hand, yes, it's possible we could have waited a little bit longer after 2015 to raise rates. But she said it wouldn't have made that much of a difference. And it's kind of up to you to interpret what that means.

But one interpretation of that would be the Federal Reserve, yes, it could have waited until maybe 2016 to start raising rates, but that it still wouldn't have gotten inflation to drive that much higher. Because as we know, the Federal Reserve measures inflation using what they call core personal consumption expenditures. That excludes any sort of volatile components like food prices or energy prices.

And since the Federal Reserve's begun targeting 2%, it's actually been running core PCE about 1.6% over the last eight years. So the Federal Reserve saying, we need to rethink that. That was why Chairman Powell unveiled those changes last week.