Fed’s Daly sees further rate hikes ahead, warning AI is fuelling inflation

AI has undoubtedly added to price pressures, according to San Francisco Federal Reserve (Fed) President Mary Daly. Its effect on employment remains contained, with Daly describing it as “having limited impact on the labour market.”

Delivering a keynote address at the Stanford Institute for Economic Policy Research, Daly flagged the risk of AI adding to inflation. The prevailing bias, she said, is that “further tightening will be needed.” She also noted that inflation is spreading into services, warning that “inflation pressure is up, not down”.

TMGM Analysis: Financial Market News, Economic Calendar & Market Insights

Main points:

The technology boom is powering the economy

A deep AI pipeline means activity will continue even if the pace slows

AI is unquestionably adding to price pressures

The direct contribution of AI to inflation is modest

The labour market has seen only a limited impact from AI

We face an inflation problem, but AI is not its main driver

AI risks making a larger contribution to inflation

AI valuations have been repriced, without an unwinding of interest or enthusiasm

This suggests growth is not at risk

Productivity growth has positive momentum

Substantial work under way could deliver stronger productivity growth over the next 1-3 years

The timing of AI's impact on productivity remains too early to determine

The labour market is stable, with positive economic growth, rising productivity and high inflation

Bringing inflation down must remain our focus

The immediate need to tackle inflation should not lead us to overlook the potential disinflationary effect of productivity growth

We cannot be complacent, as inflation shocks can compound

The bias points towards a need for additional tightening

Inflation is spreading into services, where price growth becomes sticky once it rises

I am comfortable with a September rate rise; additional tightening is necessary

Price pressures are increasing rather than easing

More firms are telling me they intend to pass on higher costs

Markets cannot do the Fed's work; maintaining price stability is the Fed's responsibility

Financial markets align with where the Fed needs to be

With financial conditions tighter, we have more time to reach decisions

We do not need to decide now on the precise scale or timing of Fed tightening

We have many quarters ahead in which to take policy decisions

US Dollar: Today's Currency Performance

Against the Australian Dollar, the US Dollar recorded its strongest performance today. The table below sets out today's percentage changes in the US Dollar (USD) against the major currencies listed.

	USD	EUR	GBP	JPY	CAD	AUD	NZD	CHF
USD		0.33%	0.33%	-0.05%	0.04%	0.64%	0.33%	0.32%
EUR	-0.33%		0.00%	-0.37%	-0.29%	0.32%	-0.00%	-0.02%
GBP	-0.33%	-0.01%		-0.36%	-0.28%	0.32%	-0.00%	-0.02%
JPY	0.05%	0.37%	0.36%		0.08%	0.68%	0.36%	0.36%
CAD	-0.04%	0.29%	0.28%	-0.08%		0.60%	0.29%	0.28%
AUD	-0.64%	-0.32%	-0.32%	-0.68%	-0.60%		-0.30%	-0.32%
NZD	-0.33%	0.00%	0.00%	-0.36%	-0.29%	0.30%		0.00%
CHF	-0.32%	0.02%	0.02%	-0.36%	-0.28%	0.32%	-0.00%

Percentage moves between major currencies are displayed in the heat map. Select the base currency in the left-hand column and the quote currency in the top row. Selecting the US Dollar on the left and following that row across to the Japanese Yen, for instance, shows the percentage change for USD (base)/JPY (quote) in the corresponding cell.

Fed: Key Questions Answered

The Federal Reserve's Role and Its Influence on the US Dollar

Price stability and full employment are the Federal Reserve's two mandates. To pursue them, the Federal Reserve (Fed) sets US monetary policy, primarily through adjustments to interest rates. If prices climb too rapidly and inflation exceeds its 2% target, the Fed raises rates. Borrowing becomes more expensive across the economy, while the US becomes a more attractive destination for international investment. This strengthens the US Dollar (USD). Conversely, inflation below 2% or an excessively high unemployment rate may prompt the Fed to cut rates to stimulate borrowing, putting pressure on the Greenback.

Eight Annual Meetings: The Fed's Policy Schedule

At eight policy meetings each year, the Federal Open Market Committee (FOMC) reviews economic conditions and determines monetary policy for the Federal Reserve (Fed). Twelve Fed officials attend: the seven Board of Governors members, the president of the Federal Reserve Bank of New York, and four of the other eleven regional Reserve Bank presidents. The latter serve on a rotating basis for one-year terms.

Quantitative Easing (QE): The Effect on USD

When extreme conditions disrupt the financial system, the Federal Reserve may turn to Quantitative Easing (QE) to increase credit flows substantially. This unconventional measure is deployed during crises or periods of exceptionally low inflation. During the Great Financial Crisis in 2008, it was the Fed's preferred policy tool. Under QE, the Fed prints additional Dollars to purchase high-grade bonds from financial institutions. The policy generally weakens the US Dollar.

Quantitative Tightening (QT): Implications for the US Dollar

By reversing QE, quantitative tightening (QT) generally supports the US Dollar's value. Under QT, the Federal Reserve ceases bond purchases from financial institutions. It also refrains from reinvesting principal repayments from maturing bonds in its portfolio into new bonds.