AP – With inflation nearly defeated and the job market cooling, the Federal Reserve (Fed) is prepared to start cutting its key interest rate from its current 23-year high, Chair Jerome Powell said over the weekend.
Powell did not say when rate cuts would begin or how large they might be, but the Fed is widely expected to announce a modest quarter-point cut in its benchmark rate when it meets in mid-September.
“The time has come for policy to adjust,” Powell said in his keynote speech at the Fed’s annual economic conference in Jackson Hole, Wyoming. “The direction of travel is clear, and the timing and pace of rate cuts will depend on incoming data, the evolving outlook and the balance of risks.”
His reference to multiple rate cuts was the only hint that a series of reductions is likely. Powell stressed that inflation, after the worst price spike in four decades inflicted pain on millions of households, appears largely under control. According to the Fed’s preferred measure, inflation fell to 2.5 per cent last month, far below its peak of 7.1 per cent two years ago and only slightly above the central bank’s two per cent target level.
“My confidence has grown,” he said, “that inflation is on a sustainable path back to two per cent”.
Powell’s assessment signalled that the Fed is making a fundamental shift from its two and a half years fight against inflation, toward a broader effort to keep the economy growing and employers hiring.
The Fed chair’s assurance that rate cuts are coming helped fuel a rally on Wall Street. Bond yields fell, and stock indexes were broadly higher.
“The only question remaining for the September 18 meeting is: By how much will the Fed be cutting?” said chief economist Joseph LaVorgna at SMBC Nikko Securities.
“The outcome of the August employment report,” which will be reported September 6, LaVorgna said, “is obviously critical”. If that report shows a second straight month of weak hiring, the Fed may cut its key rate by a more aggressive half-point.
Most economists expect the Fed to cut its benchmark rate by a quarter-point at each of its final three meetings this year. Wall Street traders, though, foresee a one-in-three likelihood that the Fed will cut by a half-point at one of those meetings, according to futures prices.
A lower Fed benchmark rate will lead eventually to lower rates for auto loans, mortgages and other forms of consumer borrowing and could also boost stock prices.
In his remarks over the weekend, the Fed chair suggested that rate cuts should help extend the much sought-after “soft landing”, whereby inflation falls back to the Fed’s two per cent target without a recession occurring.
Continued growth could boost Vice President Kamala Harris’ presidential campaign, even as most Americans say they’re dissatisfied with the Biden-Harris administration’s economic record, largely because average consumer prices remain far above where they were before the pandemic.
“We will do everything we can,” Powell said, “to support a strong labour market as we make further progress toward price stability.”
By cutting rates, he said, “there is good reason to think that the economy will get back to two per cent inflation while maintaining a strong labour market”.
A rate cut in mid-September, coming less than two months before the presidential election, could bring some unwelcome political heat on the Fed, which seeks to avoid becoming entangled in election-year politics. Former President Donald Trump has argued that the Fed shouldn’t cut rates so close to an election.
But Powell has repeatedly underscored that the central bank would make its rate decisions based purely on economic data, without regard to the political calendar.
In his remarks, Powell said the Fed has grown concerned about slower hiring and a rising unemployment rate, even while it still wants to see inflation fall further. That dual focus is replacing the Fed’s previous singular focus on inflation.
“The cooling in labour market conditions is unmistakable,” the Fed chair said. “Job gains remain solid but have slowed this year. We do not seek or welcome further cooling in labour market conditions.”
In what amounted to something of a victory lap, Powell noted that the Fed had succeeded in conquering high inflation without causing a recession or a sharp rise in unemployment, which many economists had long predicted.
The soft landing “did come as a big surprise to the (economics) profession”, Gauti Eggertson, an economist at Brown University, said during a presentation on Friday at the Jackson Hole conference. He attributed that outcome to the unraveling of the pandemic’s disruptions to supply chains and labour markets and a reduction in job vacancies, which allowed wage growth to cool.
Powell noted that, according to surveys and financial market gauges, Americans never really expected high inflation to stick.
Such expectations can become self-fulfilling: If people expect inflation to stay high, they typically demand ever-higher pay or they accelerate their purchases before prices rise still further. Those steps can perpetuate higher inflation. But “inflation expectations” rose only modestly and have since largely fallen back to pre-pandemic levels.
“The healing from pandemic distortions”, the Fed’s rate hikes and the fact that Americans did not expect higher inflation, “have worked together to put inflation on what increasingly appears to be a sustainable path to our two per cent objective”, the Fed chair said.
Powell also addressed criticism that the Fed was too slow to raise rates even after inflation had begun surging once the pandemic recession ended.
