Fed: Inflation fight could hit job market
Stock market wavers on warning of monetary policy changes
Federal Reserve Chairman Jerome Powell made clear Tuesday the central bank is prepared to react to recent signs of economic strength by raising interest rates higher than previously expected and, if incoming data remains hot, potentially returning to a quicker pace of rate increases.
Powell, in remarks before the Senate Banking Committee, also noted the Fed’s fight against inflation was “very likely” to come at some cost to the labor market. His comments were the clearest acknowledgment yet that recent reports showing inflation remains stubborn and the job market remains resilient are likely to shake up the policy trajectory for the United States’ central bank.
The Fed raised interest rates last year at the fastest pace since the 1980s, pushing borrowing costs from near zero to above 4.5%. That initially seemed to be slowing consumer and business demand and helping inflation to moderate. But a number of recent economic reports have suggested inflation did not weaken as much as expected last year and remained faster than expected in January, while other data showed hiring remains strong and consumer spending picked up at the start of the year.
While some of that momentum could have owed to mild January weather — conditions allowed for shopping trips and construction — Powell said the unexpected strength would probably require a stronger policy response from the Fed.
“The process of getting inflation back down to 2% has a long way to go and is likely to be bumpy,” he told the committee. “The latest economic data have come in stronger than expected, which suggests the ultimate level of interest rates is likely to be higher than previously anticipated.”
Fed officials projected in December that rates would rise to a peak of 5% to 5.25%, with a few penciling in a slightly higher 5.25% to 5.5%. Powell suggested the peak rate would need to be adjusted by more than that, without specifying how much more.
He even opened the door to faster rate increases if incoming data — which include a jobs report Friday and a fresh inflation report due next week — remains hot. The Fed repeatedly raised rates by three-quarters of a point in 2022, but slowed to half a point in December and a quarter point in early February.
“If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes,” Powell said.
Before his remarks, markets were heavily prepared for a quarter-point move at the Fed’s March 21-22 meeting. After his opening testimony, investors increasingly bet the central bank would make a half-point move in March, stock prices lurched lower, and a closely watched Wall Street recession indicator pointed to a greater chance of a downturn. The S&P 500 ended the day down about 1.5%.
While Powell predicated any decision to pick up the pace of rate increases on incoming data, even opening the door to the possibility made it clear that “it’s definitely a policy option they’re considering pretty actively,” said Michael Feroli, chief U.S. economist at JPMorgan Chase.
Feroli said a decision to accelerate rate moves might stoke uncertainty about what would come next: Will the Fed stick with halfpoint moves in May, for instance?
“It raises a lot of questions,” he said. Blerina Uruci, chief U.S. economist at T. Rowe Price, previously thought the Fed would stop lifting interest rates around 5.75% but now thinks there is a growing chance they will rise above 6%, she said. She thinks that if Fed officials speed up rate increases in March, they may feel the need to keep the moves quick in May.
“Otherwise, the Fed runs the risk of looking like they’re flip-flopping around,” Uruci said.
While the Fed typically avoids making too much of any single month’s data, Powell signaled that recent reports had caused concern both because signs of continued momentum were broad-based and because revisions made a slowdown late in 2022 look less pronounced.
“The breadth of the reversal along with revisions to the previous quarter suggests that inflationary pressures are running higher than expected at the time of our previous” meeting, Powell said.