What Jerome Powell didn’t do: lay the groundwork for higher rates

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What Jerome Powell didn’t do: lay the groundwork for higher rates

The real news from the Federal Reserve on Wednesday was not what it did, but what Chair Jerome Powell didn’t.

The work the Fed’s policy committee did – announcing that the central bank would gradually discontinue its economy-stimulating program of buying bonds – was highly telegraphed and relaxed in line with investor expectations.

What Mr. Powell didn’t do is give any indication that persistently high inflation in recent months had prompted him to reconsider his patient approach to raising the Fed’s interest rate target. Rather, he reiterated his long-standing belief that high inflation is mostly caused by disruptions in global supply networks and other ripple effects of the pandemic – problems the Fed can’t do much about.

This is a delicate moment. President Biden will have to decide whether to reappoint Mr Powell for a second term leading the Fed. According to surveys, high inflation is causing economic discontent for Americans, and helping to drag down the president’s approval ratings. The global bond market is rocked amid uncertainty about whether the era of low interest rates is coming to an end.

On interest rates, Mr. Powell echoed the thinking of leaders of several other major central banks and some of his own colleagues. They think that excess demand in the economy is a big part of the inflation problem and that an increase in that rate will help address it – and that the current high inflation may add to economic decision-making with long-lasting consequences. Is.

If it had expressed more alarm about those inflationary pressures, it would have been a sign that the Fed may act to raise rates more abruptly than it once planned. The Bank of Canada, the Reserve Bank of Australia and the Bank of England have recently done the same. Many Eastern European central banks are going a step further, aggressively raising rates to combat inflation (including a 0.75-percent-point rate hike by the Polish central bank on Wednesday).

Mr. Powell himself has essentially acknowledged in recent demonstrations that price increases are on a longer run than he expected due to supply disruptions. He said in late September that it was disappointing that supply chain constraints were not improving and could get worse, adding that it would keep inflation up for longer than the Fed thought.

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But he was adamant on Wednesday not suggesting that those developments were a reason to accelerate the Fed’s interest rate hike plans. He suggested that they would need to wait until the tapering off of bond purchases was complete and until Fed officials concluded that the economy had achieved maximum employment.

“We understand the difficulties that high inflation creates for individuals and families,” Mr. Powell said on Wednesday. But he continued: “Our equipment cannot reduce supply constraints. Like most forecasters, we believe that our dynamic economy will adjust to supply and demand imbalances, and as this happens, inflation will drop to levels very close to our long-run target of 2 percent.

With such language, he was refusing to adopt the use of an “open-mouth policy” or essentially trying to downplay inflation fears by using more specific language so that the Fed had a head-on. Have a hair-triggered readiness to take immediate action. higher prices.

He appeared to be applying the lessons of the 2010 labor market in setting the course of the central bank. In that decade, unemployment was declining, with many analysts thinking that workforce participation was rising higher. Finally, the Fed may have made a mistake by prematurely raising interest rates, slowing down the process of labor market reform.

In the context of 2021, this means that before allowing post-pandemic treatment of the labor market, for example, that many Americans who currently say they are not in the labor force are looking to improve public health conditions. will return as

“There’s room for complete humility here as we try to think about what will lead to maximum employment,” Mr. Powell said. He said the past economic cycle showed that “over time you can get to places that didn’t seem possible.”

He also appeared to deploy another lesson from the 2010s – namely the “taper tantrum” learned in 2013 when global markets plunged as Chairman Ben S. Bernanke moved to reduce the Fed’s bond purchases.

An important lesson of that era is the need to separate the taping as much as possible from the decision to telegraph long ago and raise interest rates. In that episode, markets experienced a double whammy as they envisioned both a closing of the Fed’s bond purchases and a rapid rate hike.

With his assurances on Wednesday that the Fed was in no hurry to raise rates, Mr. Powell was essentially trying to avoid that problem.

This by no means means that the era of near-zero rates will last for nothing as long as the aftermath of the global financial crisis. Mr Powell said the United States could achieve the Fed’s legally mandated target of “maximum employment” by the second half of 2022, which would pave the way for rate hikes.

But if the inflation growth of 2021 proves to be anything other than temporary, Mr. Powell’s decision to stick to his guns at this meeting is to use monetary policy in other English-speaking countries to try to take it out. Will be in the form of a missed moment.

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