Fed Policy to Provide ‘Powerful Support’ Until Recovery Complete

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The Federal Reserve said the widening Covid-19 vaccination program has helped the U.S. economy stage a robust rebound, while pledging that monetary policy will continue to provide “powerful support.”

“Progress on vaccinations has led to a reopening of the economy and strong economic growth, supported by accommodative monetary and fiscal policy,” the central bank said Friday in its semiannual Monetary Policy Report to Congress. “However, the effects of the Covid-19 pandemic have continued to weigh on the U.S. economy, and employment has remained well below pre-pandemic levels.”

The Fed report, which provides lawmakers with an update on economic and financial developments and monetary policy, was published on the central bank’s website ahead of Chair Jerome Powell’s testimony before the House Financial Services Committee on Wednesday and the Senate Banking panel a day later.

Fed officials held interest rates near zero at their meeting last month and released economic projections that show they expect to keep them there until 2023. Policy makers have also pledged to maintain asset purchases at a $120 billion monthly pace until “substantial further progress” had been made on employment and inflation.

A record of the June 15-16 gathering released Wednesday signaled officials expected progress to continue but were not yet ready to lay out a timeline to scale back buying, citing uncertainty over the outlook.

The Monetary Policy Report noted that Fed asset purchases and a pledge not to raise interest rates until it had achieved its inflation and employment goals “will help ensure that monetary policy continues to deliver powerful support to the economy until the recovery is complete.”

In addition to an overview of the economy and monetary policy, the report contained a series of boxes on a variety of subjects, including the pandemic’s effect on the labor market and supply chains, as well as financial stability and the recent pickup in inflation.

Inflation Expectations

The Fed said in its report that if higher inflation doesn’t abate and starts to push expectations about future prices “persistently above” levels consistent with its 2% target, it could “call for a change in the stance of monetary policy.”

Digging into market-based measures of expectations, the Fed said they show investors anticipate inflation settling at around 2.25%, after an upward burst in the near term, which it described as being consistent with the Fed’s goal.

Expectations taken from surveys show a similar pattern as market-based measures, the Fed said, with higher near-term inflation settling back toward the Fed target.

Despite this benign analysis, Fed officials conceded that there are also signs that forecasters suggest the risk to higher inflation has moved up.

In the Survey of Professional Forecasters, “the average respondent now appears to attach lower probabilities to outcomes of inflation below 2%, and somewhat higher odds of inflation running above 3%, which suggests that respondents’ perceived upside risks to inflation in the near term have shifted up somewhat.”

Financial Stability

On financial stability, the Fed said that that some parts of the financial system had grown more vulnerable to potential instability since its last report in February but that the core of system remained resilient.

It characterized equity and commercial real estate prices as high and said the surge in prices of crypto-assets partly reflected increased risk appetite on the part of investors.

“Asset prices may be vulnerable to significant declines should investor risk appetite fall, interest rates rise unexpectedly, or the recovery stall,” the Fed said.

Labor Market

The Fed said the pandemic may have sped up structural changes that were already taking place in the labor market, such as increased adoption of technology and the pace of retirements, leading to a post-pandemic employment reality that may look different from early 2020, before the onset of the virus.

The labor-force participation rate has recovered somewhat over the past few months, but has done so less consistently than the unemployment rate. Many people remain out of the labor market due to virus fears and to care for children amid a lack of care.

The Fed said the entire decline in mothers’ participation is attributable to care giving reasons, especially so for Black and Hispanic mothers. The impact of expanded employment insurance, which some economists and businesses have argued are incentivizing workers to remain out of the labor force, remains unclear, the Fed said.

Supply Chains

On supply chains, the Fed noted that sudden surges in demand had created logjams that overwhelmed transport nodes like ports and spurred a jump in logistics costs. Supply constraints led to an increase in prices of goods including lumber, motor vehicles and appliances.

“As producers and the distribution network work through these bottlenecks, production is expected to pick up and price pressures to ease -- for example, lumber prices have come down from their late-spring peaks,” the Fed said. “The time frame for the resolution of these bottlenecks is uncertain, as they reflect both the global supply chain and some industry-specific reasons for the tight conditions.”

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