By Chief Economist, Jeanette Garretty
The FOMC interest rate announcement today came in almost completely as expected, holding the Fed Funds policy target at 5.25%-5.5% and no change in the Quantitative Tightening (QT) program which has served to reduce the securities on the Federal Reserve balance sheet by more than $1 trillion. Very little in the language of the announcement changed from the September FOMC meeting, with the exception of references to strong economic growth. And indeed, perhaps the most notable difference that emerged during the press conference that followed the announcement was the prominence given to the words “strong”, “robust” and “resilient” when discussing the US economy.
This was the first press conference in recent memory where a relatively upbeat Fed Chairman Powell stayed consistently positive throughout his fielding of reporters’ questions. The news in a mostly no-news press conference was the degree to which Powell stressed that “the Committee is proceeding carefully” in light of the uncertainties regarding the cumulative impact of monetary tightening, the time-lags in assessing economic effects and the broad implications for financial market conditions. Near the end of the press conference, Chairman Powell made an important statement, likely to be overlooked because of its classic economist-speak quality; the risks between the Fed doing too little and the Fed doing too much are now, in the views of both the FOMC and of Chairman Powell, “equally balanced”. The importance of this can only be appreciated against the backdrop of more than a year’s worth of Fed press conferences and speeches wherein the great danger to economic growth and price stability of not tightening enough and fast enough was the dominant theme. In essence, Chairman Powell took a far more confident stance than in the past regarding the sufficient tightness of monetary policy and the outlook for the US economy.
Powell seemed reluctant to emphasize the influence of rising bond yields over the past few months. But between the lines it certainly seemed a factor in his greater assurance in the current monetary policy stance and the ability to get to the 2% target on inflation. A significant issue for him regarding the influence on the economy and inflation from the sharp increase in bond yields is 1) whether current bond yields would be persistent and 2) whether bond yield increases were a result of anticipated Fed policy or, with greater relevance, an increase in the term premium. This is a solid theoretical and practical concern if attempting to assess the true likely effect on economic growth and inflation. While he acknowledged that persistence was yet to be proven, he also quite conclusively dismissed the notion that the activity in credit markets was being driven by expectations about Fed policy. On a related note, when asked about R*, the (in)famous neutral rate of inflation, he reiterated that R* is unknowable, may be identified after-the-fact but that is too late to be of practical assistance AND that “we do know that within a range of reasonable estimates of the unknowable R*, monetary policy is restrictive.” Is it restrictive enough to get to 2% inflation over time? Powell indicated that this was the “big question” but then also said the expectation was that progress on inflation would be “lumpy” and that the FOMC felt that they were on the correct path to get there over time.
Bottom line: This was a message from a very confident, patient Federal Reserve Chairman. Possibly even “happy.” A remarkable change in tone.
A couple of additional random tidbits from the press conference:
“Potential growth” is not the same as “trend line growth” in Chairman Powell’s vocabulary. Potential growth has been elevated for a few years to above trend-line growth (generally estimated at below 2%) by recent increases in labor market participation rates, immigration and the better-functioning labor market dynamics.
“The Committee is not considering altering the QT program.” Probably the most definitive statement of the press conference along with “The Committee is not talking about rate cuts at this time.” The question the Committee will discuss next is “For how long will policy remain restrictive.”
Despite the ending of the UAW strike and oil prices flattening out and many assorted geopolitical risks, “The bigger picture for the FOMC is that there is a very strong economy and monetary policy is sufficiently restrictive.” In other words, no need to change policy to address the many short term developments and risks that are indeed out there.
The Fed is working with a lot of financial institutions to make certain they have good plans in place for the current and future environment. No sense of concern about financial institutions at this time.
The recent “jump” in consumer inflation expectations in the University of Michigan Consumer Confidence survey was an aberration involving a preliminary number that was invalidated in the final results. Powell evidenced no concern about inflationary expectations in general.
Regarding the widely reported employment cost index and other indications that wage increases are robust, Powell gave a very interesting answer downplaying the influence of these observations on the overall outlook for inflation. He said that one must look at the broad range of wage increases and observe that wage increases have come “way down” and that they are now, with reasonable adjustments for productivity, “MUCH closer to being consistent with 2% inflation.” Powell stated that it was not his view that wages have been the principal driver of inflation thus far.
Powell stated that the Fed may have underestimated the balance sheet strength of households and small businesses, therefore leading to surprises in the strength of consumer spending. But strong job creation has created wages that are higher in the aggregate and that drives spending which in turn drives more hiring. And with more people to hire, then aggregate increases in wages are further supported. In other words, the strength of consumer spending all makes sense.
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