(Bloomberg Opinion) -- In his address at the annual Jackson Hole economic conference, Federal Reserve Chairman Jerome Powell offered a finely calibrated message that I think is worth amplification: The Fed wants to do everything it can to restore jobs lost during the pandemic, but that doesn’t mean it’s not taking the risk of inflation seriously.
As I interpret his remarks, Powell remains optimistic about the U.S. recovery. He expects the strong demand and job gains of the last few months to persist into next year, and he views any disruptions related to the rise of the delta variant as likely to be modest and transient.
He paid special attention, though, to the theme of inflation. Powell marshaled considerable evidence to support the case that the current surge in prices will prove to be temporary. And he pointedly noted that tightening monetary policy in response to transitory inflation has historically been a mistake, invoking the experience of the 1950s and its multiple recessions to argue that it “may do more harm than good.”
Powell attributed the sharp rise in reported inflation mainly to the pandemic-related surge in demand for durable goods. In early 2021, sales of long-lasting items such as refrigerators, bicycles and cars exceeded their long-term trend by about an annualized $1 trillion, even as demand for services remained depressed — a phenomenon that drove the year-over-year increase in durable goods prices up to about 7%. This doesn’t worry Powell, because he expects it to abate and because the long-run price trend in durable goods has been persistently downward, both in recent years and throughout the quarter century leading up to the pandemic.
Beyond that, he noted that wage gains have been quite modest, and inflation expectations remain well-anchored: One Fed staff measure that summarizes long-term expectations is currently very close to the Fed’s 2% target. Also, a sharp decline in prices at the start of the pandemic created a low base that has driven up today’s year-over-year comparisons — an effect that will disappear by next spring.
Powell’s focus on inflation indicates concern among officials that recent high readings, even if transient, could call into question the central bank’s resolve to keep prices in check. By developing the theme in depth, he is seeking to reassure the public that the Fed has done its homework, that the risk of an inflationary spiral is low and, if it turns out he’s wrong, the Fed stands ready to respond as necessary.
For monetary policy, the implication is that the Fed will stick to its well-telegraphed plan, which means the process of tapering its monthly securities purchases is likely to begin later this year.
But Powell noted that the timing and pace of tapering should not be seen as a signal of when and how quickly the central bank will start raising short-term interest rates. He stressed that the requirements for interest-rate “liftoff” will be much more stringent, because the two policy tools differ in a fundamental way: Rate increases represent monetary tightening, while tapering is merely a deceleration of monetary stimulus. Even when the taper is complete, the Fed’s elevated holdings of securities will provide accommodation.
Powell’s emphasis on this distinction seems aimed at reducing the risk of a “taper tantrum,” in which bond yields jump in anticipation of higher interest rates. While the taper almost certainly has to be complete for liftoff to begin, it doesn’t follow that liftoff must begin when the taper is complete.
The broader point is that the Fed under Powell is determined to probe the limits of its ability to reach maximum employment and provide greater job opportunities for the less fortunate — which means it will be careful not to hit the brakes too soon.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Bill Dudley is a Bloomberg Opinion columnist. He is a senior research scholar at Princeton University’s Center for Economic Policy Studies. He served as president of the Federal Reserve Bank of New York from 2009 to 2018, and as vice chairman of the Federal Open Market Committee. He was previously chief U.S. economist at Goldman Sachs.
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