WASHINGTON – The Federal Reserve will begin to reverse its ultra-low rate policies this year as long as hiring continues to improve, President Jerome Powell said on Friday, marking the beginning of the end of the Fed’s extraordinary response to the pandemic recession.
In a speech virtually delivered to an annual gathering of central bankers and academics, Powell said the economy had improved significantly this year, with average hires over the past three months reaching the highest level on record for a similar period before the pandemic. Fed officials are monitoring the rapid rise in delta variant infections, he said, but they expect healthy job gains to continue.
The Fed bought $ 120 billion a month in mortgage and treasury bonds in an attempt to hold down long-term lending rates in order to stimulate borrowing and spending. Powell’s comments indicate that the Fed will likely announce a reduction – or “tapering” – of those purchases in the last three months of this year. Most economists expect the announcement in November, with the reduction actually starting in December.
Powell pointed out that the Fed’s cut in bond purchases did not mean it plans to start raising its short-term benchmark rate anytime soon, which it has held close to zero since the pandemic ravaged. economy in March 2020. Rate hikes likely won’t start until the Fed has finished cutting its bond purchases, which may not happen until mid-2022. Powell said the Fed would need to see a lot of economic improvements before it starts raising its policy rate, which influences many consumer and business loans.
“We have a long way to go to reach peak employment, and time will tell if we’ve hit 2% inflation on a sustainable basis,” said Powell, referring to the Fed’s target inflation rate. .
Inflation is now well above 2%, admitted Powell, but stressed his view that the current price spike is temporary. He warned that history shows that raising rates too soon, in response to temporary price increases, can weaken hiring and hurt the unemployed.
These comments reinforced the idea that the Fed is still a long way from raising its benchmark rate in the short term.
“If anything, it was a calming speech,” said Brian Bethune, an economist at Boston College. “There is nothing here in the short term that will drive interest rates up.”
Over time, the end of Fed bond purchases could put upward pressure on borrowing costs for mortgages, credit cards and business loans. As Powell said on Friday, however, the yield on the 10-year Treasury bill, which heavily influences the 30-year mortgage rate, fell to 1.32% from 1.34% on Thursday.
Equity investors also appeared to welcome Powell’s message of a gradual withdrawal of economic support from the Fed and his view that rising inflationary pressures are likely to be temporary. The Dow Jones Industrial Average rose 230 points, or nearly 0.7%, several hours after the Fed chairman intervened.
“The markets appreciate that there is a different test for raising rates than for tapering, and any communication about tapering has no direct effect on raising rates,” said Steve Friedman, economist at the manager of active MacKay Shields and former senior executive. New York Fed staff member.
This marks a stark contrast to 2013, when Ben Bernanke, then Fed chairman, triggered what would come to be known as the “taper tantrum” by unexpectedly suggesting that the Fed would soon cut back on a previous round of buying of ‘bonds – a remark that lasted longer. eventually soaring rates. The jump in rates happened in part because investors believed the start of a cut meant rate hikes were close, which turned out to be wrong.
On Friday, Powell said inflation had risen enough to meet the test of “further substantial progress” towards the Fed’s target of 2% annual inflation over time, which was necessary to begin to decline. There has also been “clear progress,” he said, towards the Fed’s goal of maximum jobs. He spoke via a webcast at the Jackson Hole Economic Symposium, which is being held for virtually a second year in a row due to COVID-19.
But Powell suggested that if inflation has risen, causing hardship for millions of Americans, the acceleration in prices is likely to ease once the economy normalizes further after the pandemic and supply shortages. will have calmed down.
If the Fed cuts its stimulus “in response to factors that prove to be temporary,” the Fed chairman warned, “the untimely policy decision is needlessly slowing hiring and other economic activity and pushing inflation lower than desired “.
Powell also noted that while average wages have risen, they have not risen enough to raise fears of a “wage-price spiral,” as happened during the very high-inflation 1970s.
“Today,” he said, “we see little evidence of wage increases that could threaten excessive inflation.”
If anything, Powell said, the factors that helped keep inflation very low for years before the pandemic – the growth of online retail, the lower-cost products coming from abroad, slowing population growth – could reappear as the pandemic subsides.
Yet Powell’s comments have served to highlight what looks like a split in the Fed’s policy-making committee between himself, as well as other officials such as Fed Governor Lael Brainard, who favors patience in reversing low rate policies, and other policymakers pushing to start soon so that a rate hike can follow quickly, if necessary.
“Let’s start the cone, and let’s do it quickly,” Federal Reserve Bank of Atlanta chairman Raphael Bostic said Friday morning on CNBC ahead of Powell’s speech. Bostic said he expects the central bank to raise rates at the end of 2022 – earlier than the average of all Fed policymakers, who expect the first rate hike to be in mid-2023.
Bostic and some of his fellow regional Fed bank chairmen, including Jim Bullard of the St. Louis Fed, Robert Kaplan of the Dallas Fed, and Eric Rosengren of the Boston Fed, say they fear high inflation will persist longer. long time than Powell seems to believe. Some of these Fed chairmen report that the businessmen they speak with say they continue to raise prices to offset their own higher costs for wages and parts.
A sharp rise in inflation has placed the Fed’s ultra-low rate policies under close scrutiny, both in Congress and among regular households who pay more for food, gasoline, and stays at home. hotel. Inflation, according to the Fed’s preferred gauge, rose 3.6% in July from a year earlier, the largest increase in three decades. The month-over-month increase, however, slowed from 0.5% to 0.3%.
Complicating the Fed’s decision-making, the resurgence of the pandemic has belied the Fed’s expectations that the economy and labor market are clearly on track for improvement by this fall. The delta variant could slow spending in areas such as air travel, dining out, and entertainment.