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Powell Vows to Cool Prices With Hikes That Risk Economy Pain

The U.S. Fed has effected a 50 bps rate hike for first time since 2000 and Powell says similar moves are likely for June and July.

Powell Vows to Cool Prices With Hikes That Risk Economy Pain
Fed Chair Jerome Powell's address displayed on a screen at the NYSE. (Photographer: Michael Nagle/Bloomberg)

Federal Reserve Chair Jerome Powell assured Americans that policy makers will do what it takes to curb surging inflation, acknowledging this could cause “some pain” as the U.S. central bank deployed its most powerful policy tightening in decades.

The Fed on Wednesday raised interest rates by 50 basis points for the first time since 2000 and Powell said similar moves were on the table for June and July. Still, investors took heart that he also pushed back against a larger 75 basis-point increase, with stocks enjoying their largest rally on the day of a Fed meeting in a decade.

“I’d like to take this opportunity to speak directly to the American people,” Powell said at the very start of a post-meeting press conference in Washington, held in person for the first time since the pandemic began. “Inflation is much too high and we understand the hardship it is causing, and we’re moving expeditiously to bring it back down.”

Powell Vows to Cool Prices With Hikes That Risk Economy Pain

Fed officials -- who also decided to start reducing their holdings of Treasuries and mortgage-backed securities next month -- are trying to curb the hottest inflation since the early 1980s. Back then, Chair Paul Volcker raised rates as high as 20% and crushed both inflation and the broader economy in the process. 

The Fed’s hope this time around is that the combination of rising borrowing costs and a shrinking balance sheet will deliver a soft landing that avoids recession while tamping down inflation, though Powell implied this might not be possible without hurting growth.

“Yes, there may be some pain associated with getting back to that,” Powell said. “But, you know, the big pain is in not dealing -- over time -- is in not dealing with inflation and allowing it to become entrenched.”

The Fed chief and his colleagues have faced mounting criticism they were slow to confront inflation, which in March reached a 40-year high of 8.5%, based on the Labor Department’s consumer price index. Powell on Wednesday said the central bank has been adapting as the data changed, and will continue to do so.

“This was Volckeresque in terms of the hawkishness and the willingness to raise rates,” said Diane Swonk, chief economist at Grant Thornton LLP. Powell “is not going to say directly, ‘We are going to go into a recession.’ You don’t have to read between the lines too much to see if push comes to shove, they are going to get rid of inflation.”

What Bloomberg Economics Says...

“Bloomberg Economics expects the Fed to hike by 50 basis points at its next two meetings as well, with the fed funds rate exceeding FOMC members’ neutral-rate estimate of about 2.5% in the last quarter of this year. At the announced pace, the balance-sheet runoff will see the Fed’s portfolio approach its pre-pandemic size by 2024.”

-- Anna Wong, Yelena Shulyatyeva, Andrew Husby and Eliza Winger (economists)

Click here to read more

Powell said half-point increases were on the table for the next two policy meetings and suggested that officials could then throttle their hiking pace to quarter-point increases starting in September, provided price pressures showed signs of cooling. Fed officials say they want to raise rates until they reach the level that neither speeds up not slows down the economy -- known as the neutral rate.

He also said “it is certainly possible” that the Fed decides over time that it will need to move rates to levels that are restrictive for the economy.

“If higher rates are required then we won’t hesitate to deliver them,” Powell said, though he noted that that there was a “broad range of plausible levels of neutral,” which officials in March estimated between 2% and 3%.

Powell Vows to Cool Prices With Hikes That Risk Economy Pain

But Powell noted that a 75 basis point hike is not being “actively” considered, sending stocks higher and prompting some Fed watchers to ask whether he had made a communications error given the central bank would likely welcome a tightening of financial conditions.

“I expected he would leave that option on the table,” said Aneta Markowska, chief U.S. financial economist at Jefferies LLC. By taking it off the table, “financial conditions have actually eased. If they continue to ease, the Fed will have to lean against it. There is a cap on how much financial conditions can ease before the Fed will have to step it.”

Powell’s wager is that by cooling demand with a steady march to higher interest rates, price increases will be kept in check. But it is also a risky strategy, and one that may become more dramatic later in the year if inflation doesn’t settle down, said Michael de Pass, head of linear rates at Citadel Securities.

Supply Pressures

“The Fed is hanging on to the view that the supply-side pressures are transitory,” he said. “The real challenge will be at the end of summer. If inflation is going to remain uncomfortably above target, and their rate is close to neutral, what is their reaction then?”

Russia’s invasion of Ukraine and ongoing Covid-driven lockdowns in China are continuing to impact global supply chains, which the Fed acknowledged in its post-meeting statement. But Powell emphasized that the Fed doesn’t have the tools to fight supply-side demand, and is instead trying to use its tools to rebalance a too-hot labor market.

Powell framed the Fed’s aggressive plan to rein in inflation as a way to ultimately help workers whose wage gains this year have been eroded by price increases in essentials like food, gasoline and rent. Real wages, which take into account inflation, have decreased for 12 straight months.

“There was no pussyfooting around,” said Lou Crandall, Wrightson ICAP LLC chief economist. “He wants to provide guardrails about how far they’ll go in the short run, while at the same time leaving scope for tightening in the medium term that’s much more aggressive than most market participants thought possible even three months ago.”

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