Fed Chair Jerome Powell Schools the Inflation Hawks
(Bloomberg Opinion) -- Early in his tenure as head of the Federal Reserve, Jerome Powell was known for making some incredible communication gaffes that roiled markets and left central bank watchers unclear on the direction of monetary policy. Who can forget the time in December 2018 when he said the federal funds rate was still a long way from neutral even after several increases, spurring concern the Fed was out of touch given the clear signs that the economy was decelerating?
No one can say now that he’s out of touch, except for maybe the inflation hawks. Those folks are likely to be the only ones disappointed in Powell’s virtual speech Friday at the Kansas City Fed’s annual Jackson Hole symposium. He managed to becalm financial markets while also acknowledging that it’s time for the Fed to start paring back on its stimulus measures and delivering a case study in what does and does not constitute inflation. Bonds rallied along with stocks and measures of inflation expectations held steady, all a sign that Powell hit the right notes in convincing investors that the Fed has things under control.
Powell said the economic recovery has progressed enough such that the central bank could begin reducing its $120 billion of monthly bond purchases this year, though it won’t be in a hurry to begin raising interest rates thereafter. “The timing and pace of the coming reduction in asset purchases will not be intended to carry a direct signal regarding the timing of interest rate liftoff, for which we have articulated a different and substantially more stringent test," he said.
The speech came on the same day that the government said the core personal consumption expenditures index — the Fed’s preferred measure of inflation — rose 3.6% in July from a year earlier, the biggest gain since 1991. But as Powell explained, the drivers of higher inflation are mostly the result of supply-chain disruptions that will work themselves out over time. “The spike in inflation is so far largely the product of a relatively narrow group of goods and services that have been directly affected by the pandemic and the reopening of the economy,” he said.
He’s right, and nothing the Fed does with monetary policy can fix those supply-chain disruptions, which have nothing to do with an overheating economy. Would a less accommodative stance open the ports in China that have been hit by Covid-19 outbreaks? Would it solve the semiconductor chip crisis that has curbed the production of autos and sent used-car prices soaring? Would it reverse the five-fold increase in shipping-container costs? Would it lower food prices that have soared because of droughts and worker shortages? Would it address the shortage of truckers that have led to higher transportation costs? The answer to all these questions is no.
The reality is, a rapid removal of monetary policy accommodation would only penalize the 5.7 million Americans who are still without a job because of the pandemic at a time when the economy is showing clear signs of weakening. Citigroup Inc.’s Economic Surprise Index, which measures the degree to which data is either beating or missing expectations, has collapsed, falling to its lowest level since June 2020.
What about financial markets? Isn’t Fed policy now just fostering excessive risk taking? Pockets of bubbles and excess do exist, but mostly in areas that have a limited effect on the economy, such as cryptocurrencies and non-fungible tokens. The S&P 500 Index’s 20% gain this year can be attributed solely to rising earnings estimates, which have increased 24% for 2021, according to data compiled by Bloomberg. As for housing and the rapid appreciation in prices, record-low mortgage rates are helping but the lack of supply is the real driver.
Powell has taken a lot of criticism from the inflation hawks for his view that the recent rise in prices is transitory; taper talk doesn’t change the equation. The economic recovery has made sufficient progress to allow the Fed to start pulling back, but let’s also acknowledge that less accommodative monetary policy would do nothing to reverse the spike.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is the Executive Editor for Bloomberg Opinion. He is the former global Executive Editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.
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