Powell’s gamble: More jobs but only mild inflation
WASHINGTON — With employers hiring, consumers spending and companies raising some prices, Federal Reserve Chair Jerome Powell is embarking on a high-stakes gamble.
Powell’s bet is that the Fed can keep rates ultra-low even as the U.S. economic recovery kicks into high gear — and that it won’t have to quickly raise rates to stop runaway inflation.
It’s just the kind of gamble that in the past led some of Powell’s predecessors to miscalculate and inadvertently derail the economy.
Powell and the rest of the Fed’s policymaking committee plan to keep rates near zero until nearly everyone who wants a job has one, even after inflation has crept above their 2% annual target level. Faster growth raises the risk that the Fed will eventually have to respond quickly and aggressively to a sudden acceleration of prices — and potentially cause a slump, even another recession.
Getting the timing right on interest rate policy is a tricky task that has bedeviled Fed chairs for decades. Arthur Burns, who led the central bank in the 1970s, is widely blamed for allowing inflation to get out of hand after yielding to pressure from President Richard Nixon to forgo further rate hikes. Critics also argue that Alan Greenspan, whose long tenure as Fed chair ended in 2006, failed to lift rates quickly or sharply enough to prevent the housing bubble that ignited the 2008 financial crisis and the Great Recession.
Even Chair Janet Yellen’s decision in December 2015 to slightly raise the Fed’s key short-term rate after it had sat near zero for seven years is now seen by most economists as having been premature. The economy slowed partly as a result.
But in many ways, Powell’s gamble is unique. For one thing, it’s based on fundamental changes to the way the Fed pursues its goals. The central bank has always sought a delicate balance between its two mandates: Keeping prices stable and maximizing employment.
But Powell has placed a much greater emphasis on jobs than his predecessors generally did. He has also defined the Fed’s goal of maximum employment more broadly: He has underscored that it includes addressing the particular challenges of low-income workers, non-college grads and people of color — something previous Fed chairs seldom mentioned.
And the Powell Fed is now aiming to fulfill its mandate for price stability by seeking higher inflation, after decades in which the Fed fought to hold it down. That’s because inflation has now remained persistently below 2% for nearly the entire decade since the Fed adopted that target. Too-low inflation can morph into deflation, a prolonged drop in prices and wages that typically makes people and companies reluctant to spend.
“The Volcker era started the war on inflation,” said Tim Duy, chief economist at SGH Macro Advisers, referring to Paul Volcker, whose sky-high rates during his Fed chairmanship in the early 1980s choked off double-digit inflation yet caused a destructive recession in the process. “The Powell era starts the war on unemployment and inequality. It is a dramatic change from past policies.”
Recent economic reports have depicted a surging recovery from the pandemic recession: Americans’ incomes soared in March by the most on record, boosted by $1,400 stimulus checks, and spending rose at a healthy pace. The number of Americans seeking unemployment aid fell for a third straight week. Consumer confidence has reached a pandemic high. And the economy expanded at a vigorous annual rate of 6.4% in the first three months of the year.
In March, employers added nearly 1 million jobs, a figure unheard-of before the pandemic. The unemployment rate dipped to 6%; a year ago, it was 14.8%.
All of which has raised concerns about inflation pressures. Many companies, caught off guard by the speed of the rebound, are short of raw materials and parts. Procter & Gamble, 3M and Coca-Cola have said they plan to raise prices to offset the higher cost of commodities like lumber, sugar and grains. Supply bottlenecks are forcing up the prices of factory components.
Yet at a news conference Wednesday, Powell showed no sign of wavering from his bet. He acknowledged that economic prospects are brightening. But he also stressed that the job market’s recovery is far from complete, with 8.4 million jobs still lost to the pandemic. And he reiterated that the Fed wants to keep nurturing the job market, in part to support people whose jobs are gone — waiters at shuttered restaurants, for instance, or people whose factory jobs are now automated — and who may need to look to new occupations.
Yet it can take months or more for the unemployed to switch careers. And that means the Fed may choose to keep borrowing rates ultra-low longer than it otherwise would have.
“We want to get them back to work as quickly as possible,” Powell said. “That’s really one of the things we’re trying to achieve with our policy.”
Downplaying the risk of long-term high inflation, Powell suggested that recent price hikes reflect mainly supply bottlenecks that will work themselves out as companies find alternative suppliers or raw material producers increase output.
“An episode of one-time price increases as the economy reopens,” Powell said, “is not likely to lead to persistently higher year-over-year inflation into the future.”
Some economists, notably former Treasury Secretary Larry Summers, have warned that the Fed’s low rates, along with the $4 trillion in proposed additional spending by the Biden administration, on top of roughly $5 trillion already approved by Congress, risk accelerating inflation.