Fed/Schmid: The Massive Surge in Public Debt Will Impact Monetary Policy

Forex - Kansas City Fed President Jeff Schmid stated that the "tremendous" increase in government debt will have an impact on U.S. monetary policy, but he does not expect larger deficits to drive inflation higher in the long term. Schmid addressed the rising national debt, which many consider a significant economic concern, indicating that it is one of several long-term trends he believes will shape the monetary policy environment in the coming years, including growth in labor productivity and an aging population.

Schmid mentioned that in the years leading up to the Covid-19 pandemic, one of the reasons frequently cited for low interest rates was the perception of the U.S. dollar as the world's reserve currency and a safe asset. However, he noted that now, as the supply of government debt increases and is expected to continue rising rapidly, the demand for these assets has cooled.

While acknowledging that changes in the supply and demand for safe assets could push interest rates beyond the Fed's policy-making authority, Schmid suggested that this could influence the direction of monetary policy. He stated, "Although the Fed is not a passive spectator and plays a role in determining short-term interest rates, it cannot consistently divert rates from market forces without risking its dual mandate of maximum employment and price stability. In this way, the Fed takes fiscal decisions as given and steers monetary policy in an appropriate direction to achieve its dual mandate."