The Fed shouldn't 'sacrifice the economy' in order to reach its 2% inflation target, Moody's chief economist says

• The Fed shouldn't risk an economic slump in order to lower inflation to its 2% target, Moody's chief economist said.
• Mark Zandi thinks the US central bank will likely pause its interest-rate increases at this month's review.

The Federal Reserve shouldn't risk an economic downturn to lower inflation to its 2% target, and will likely pause its interest-rate increases this month, according to Moody's Analytics chief economist Mark Zandi.

The US central bank is set to review rates next at a June 13-14 meeting, after raising them by 500 basis points since the first quarter of 2022. Money-market prices suggest a majority of investors expect the institution to leave borrowing costs on hold next week amid growing concerns about an economic slump.

"The Fed appears set to pause its rate hikes at its upcoming meeting. Thank goodness. Economic growth is fragile, the strong May payroll job gain notwithstanding. Hours worked are falling, so despite all the jobs, aggregate hours worked have gone nowhere this year," Zandi tweeted on Sunday.

The latest labor-market data showed US employers added 339,000 jobs in May, blowing past market estimates of 180,000. The red-hot reading could complicate the Fed's approach toward combating inflation, but it was tempered by slower wage gains and an increase in unemployment to 3.7% in May from April's 3.4%.

"The tight labor market is easing. Hiring is back to its pre-pandemic pace, layoffs are normalizing, and workers are no longer quitting their jobs at an extraordinary pace. Wage growth has rolled over. There are still lots of open positions, but I suspect they are soft opens," Zandi said.

The ongoing stress in the banking industry is another factor that should convince the Fed to pause, he said. Government actions have curtailed a further deposit run on the sector, but Zandi maintained that the system remains "fragile" and depositors are still "on edge" as they continue to move their cash into money-market funds.

Zandi has previously said that he's confident inflation will fall to the Fed's 2% target by May next year, from 4.9% in April.

"Why should the Fed sacrifice the economy to the altar of a 2% inflation target (closer to 2.5% for CPI), when most Fed officials probably think a 3% target makes more sense? The zero lower bounds is too close at 2%. They wouldn't (shouldn't) let on they have this view, but…," he added in the Twitter thread Sunday.