“A Long Way to Go” to Tame Inflation, Said Powell

The Fed chairman said that, in the end, interest rates are “likely to be higher” than what was expected before and will stay high for a while.

Jerome Powell, the head of the Federal Reserve, told Congress on Tuesday that inflation is getting harder to control because the economy is still doing well.

“Inflation has been slowing down over the past few months, but getting it down to 2% will take a long time and is likely to be bumpy,” Powell said in his prepared opening remarks. He also said that interest rate hikes are “likely to be higher” than what was expected before.

The Fed is raising interest rates to their highest level in years, and the economy, especially the job market, is doing better than expected.

This is why the Fed’s comments are so sober.

The Republicans on the Senate Banking Committee used this as an opportunity to blame the Biden administration for the rise in inflation. They pointed to the administration’s opposition to domestic energy production and what South Carolina Republican Tim Scott called a “woke, progressive agenda” as reasons for this.
On the other hand, Democrats tried to draw attention to the effects of the war in Ukraine, the COVID-19 pandemic, and the greed of corporations as major causes of inflation.

Powell said, “There are a lot of strange things going on, and I don’t think anyone knows how this will turn out.”

As expected, the appearance gave the Fed a chance to say again that it will fight inflation.

Moving Markets

In a speech he gave last month in Washington, Powell said that deflation had started but that, so far, it had mostly been limited to the goods market.

He said that the central bank was looking for more signs of cooling in the services sector and in things like flat rents. Powell also said that the job market was still tighter than the Fed wanted, which was making wages go up more than is in line with the Fed’s goal of 2% inflation per year.

Powell said in the Fed’s monetary policy report that came out on Friday that “as supply chain bottlenecks have eased, core goods price increases have slowed by a large amount in the second half of last year.”

“Within core service prices, housing services inflation has been high, but the fact that rent increases for new tenants slowed in the second half of last year suggests that housing services inflation will be lower in the coming year,” the Fed said. “However, price inflation remains high for other services, and the likelihood that inflation will slow may depend in part on how tight the job market is.”

The number of jobs added in January, 517,000, was much higher than expected. Some of this was due to annual changes to the data and warmer-than-normal weather. On Friday, the Labour Department will report the jobs number for February.

Most economists expect a gain of 215,000 jobs, but some think the number will be higher.

In the first part of the year, other readings of the economy were better than expected, and while many analysts still expect a recession, the date has been pushed back.

Powell likes to say that the Fed is based on facts, but the facts have been changing a lot lately. Better inflation numbers and slower economic growth at the end of 2022 led to fewer interest rate hikes in January, but since then, consumer spending and retail sales have gone up.

Then, data came in about inflation that was worse than expected. As a result, the markets started talking about a bigger increase in interest rates when the Fed meets later this month. Some Fed officials even said they would be fine with a half-point increase instead of the quarter-point increase that most economists expect.

Dave Gilbertson, vice president of payroll management company UKG, says, “We saw a slight drop in workforce activity in February compared to January, which is consistent with a soft landing in the labour market.”

“In general, we’re going exactly where the Fed wants us to go,” says Gilbertson.

Powell has tried to walk a fine line between these two sets of expectations by saying that the Fed will do what needs to be done without saying what that is.

Bond yields, on the other hand, have gone up a lot because people think the Fed will raise interest rates and keep them high for a long time. The 10-year Treasury yield recently went over the 4% mark.

As Powell gives his semiannual testimony to Congress on Tuesday and Wednesday, the possibility of a recession hangs over the Fed. This is especially true if it is delayed until later this year or into 2024 when a presidential election is coming up.

Basically, the Fed is stuck in a policy and political vice where it has to try to slow inflation enough to be able to say it is meeting its goals without slowing the economy so much that it goes into recession. It’s a dangerous tightrope to walk, and it’s getting more dangerous as the economy keeps doing better than expected. This is because the Fed has raised interest rates from almost zero to almost 5% in a year.

“The Fed wants to tighten financial conditions so the economy can move smoothly from the post-pandemic reopening phase, when the economy grew 5.9% in 2021 and 2.1% in 2022, to a more sustainable rate that neither drives up inflation nor stops economic growth,” LPL Financial Chief Economist Jeffrey Roach wrote on Monday.

“If the economy can beat back inflation without a deep and long-lasting recession, investors could see markets that are less volatile and better for both bond and stock investors,” Roach said. “We think the economy will eventually get back on track, even if there are unexpected shocks around the world. This may not happen until the Fed’s campaign to raise interest rates is nearing its end, but we expect stock investors to do well once it does.

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