Federal Reserve Chairman Jerome Powell takes a break outside of Jackson Lake Lodge during the Jackson Hole Economic Symposium near Moran in Grand Teton National Park, Wyo., on Aug. 25.Amber Baesler/The Associated Press
Federal Reserve Chair Jerome Powell used a much-anticipated speech to warn that inflation in the United States is still too high, and to reiterate that the central bank is prepared to raise interest rates further if needed.
Speaking to an exclusive gathering of central bankers and economists in Jackson Hole, Wyo., Mr. Powell cautioned against relying too heavily on recent U.S. inflation reports that show headline price pressures easing.
“Although inflation has moved down from its peak – a welcome development – it remains too high,” Mr. Powell said in a short speech on Friday morning, the only part of the annual Jackson Hole Symposium broadcast to the public.
“We are prepared to raise rates further if appropriate, and intend to hold policy at a restrictive level until we are confident that inflation is moving sustainably down toward our objective,” he said.
While the overall tone of the speech was hawkish, Mr. Powell tempered his remarks by saying that the Fed will “proceed carefully” with further monetary policy tightening – suggesting the central bank is open to holding rates steady at its next meeting in September.
Jackson Hole is always a major event in the summer economic calendar. But investors and analysts are paying particularly close attention this year for any hints about how central bankers are thinking, as they approach a pivot point for monetary policy.
Markets expect the Fed to remain on hold in September, but are roughly split on whether another interest-rate hike could happen later in the fall.
At the same time, interest-rate cuts appear to be a long way off. The strength of the U.S. economy in recent months has led bond traders to price in a “higher-for-longer” interest-rate environment. This has pushed bond yields sharply higher across the curve in recent weeks. The yield on two-year U.S. treasury bonds moved above five per cent and the yield on 10-year treasuries hit 4.2 per cent – levels not seen since 2007.
“In recent weeks market pricing had likely moved in a direction the Fed liked, so Powell likely didn’t want to rock the boat too much,” Leslie Preston, senior economist at Toronto Dominion Bank, wrote in a note to clients. “The Fed is in wait and see mode, but has its finger hovering over the hike button if progress on cooler growth stalls.”
Last year, Mr. Powell used his Jackson Hole speech to lay the groundwork for a long grind against inflation, highlighting the “pain” and “unfortunate costs” of getting prices under control. This year, he focused more on the balance central bankers are trying to strike as they weigh doing too little to control inflation against doing too much and crashing the economy.
Having lifted the Fed’s benchmark interest rate from near-zero to a range of 5.25 per cent to 5.5 per cent in a year-and-a-half, policy makers are scanning the economic data to see if they’ve done enough.
The picture they’re getting is mixed. U.S. consumer price index inflation has fallen from 9.1 per cent last summer to 3.2 per cent this July, as oil prices have dropped, global supply chains have improved, and higher borrowing costs have dampened demand for real estate and interest-sensitive goods, such as automobiles.
But beneath the surface, price pressures remain stubborn. Core inflation, which strips out food and gasoline, is still running at more than twice the Fed’s two-per-cent inflation target. Wage growth remains strong and many service prices continue to rise rapidly.
The biggest surprise has been the strength of the U.S. economy. Higher interest rates are meant to slow down economic activity by making it more expensive for people and businesses to borrow money. That’s working for some segments of the economy, with notable slowdowns in industrial production and residential investment. But consumer spending remains robust and the labour market is strong.
“We are attentive to signs that the economy may not be cooling as expected,” Mr. Powell said, noting that GDP growth is tracking above the longer-term trend. “Additional evidence of persistently above-trend growth could put further progress on inflation at risk and could warrant further tightening of monetary policy.”
The Bank of Canada is in a similar boat. Having paused interest-rate hikes in January, Canada’s central bank restarted monetary policy tightening in June in response to stronger-than-expected consumer spending.
It hiked again in July, and Bank of Canada Governor Tiff Macklem – who is attending the Jackson Hole Symposium but not speaking – has left the door open to further rate increases if economic data aren’t trending in the right direction. The bank’s next interest-rate decision is on Sept. 6.
As they try to fine-tune monetary policy, both the Fed and the Bank of Canada are struggling with uncertainty around the strength of interest-rate hikes. It’s unclear whether last year’s aggressive rate increases are simply taking longer than expected to curb economic growth, or whether interest rates aren’t high enough yet to properly weigh on demand.
Economists in favour of the second explanation argue that the so-called “neutral rate” is higher than previously thought. The neutral rate is the theoretical level at which interest rates will settle if a central bank is neither stimulating nor holding back the economy. A higher neutral rate would imply current interest rates aren’t as restrictive as expected.
“We see the current stance of policy as restrictive, putting downward pressure on economic activity, hiring and inflation. But we cannot identify with certainty the neutral rate of interest, and thus there is always uncertainty about the precise level of monetary policy restraint,” Mr. Powell said.