When Jay Powell took to the lectern to give his first press conference of 2023, the Federal Reserve chair stuck to pretty much the same script he has been using since the US central bank started ratcheting up rates last year.
He spoke of the Fed’s unwavering commitment to rooting out high inflation and pledged to keep squeezing the economy until it is vanquished, insisting the central bank was not yet done with its campaign of interest rate rises.
“We are going to be cautious about declaring victory and sending signals that we think the game is won, because we’ve got a long way to go,” he told reporters on Wednesday after the Fed raised its benchmark rate by a quarter point. That marked a downshift from the larger increases the central bank has relied on in recent months and a return to a more conventional pace of tightening.
But even as Powell jettisoned the idea that the Fed would ease off any time soon — keeping open the possibility of another two 25-basis-point increases to come — he was decisively more upbeat not only about the economic outlook but also the central bank’s grip on inflation.
That helped fuel a rally in US government bonds and stocks, with the S&P 500 closing at its highest level since last summer.
“People came into this thinking he might have that same scolding tone as he had in December,” said Julia Coronado, a former Fed economist who now runs MacroPolicy Perspectives. “He sounded more positive and more optimistic.”
Powell’s optimism might have been subtle, but it was in evidence throughout the question and answer session. While he maintained price pressures were still unacceptably high, he repeatedly said the “disinflationary process” was under way. What is more, he said he saw a “path” to bringing inflation down to the Fed’s 2 per cent target without a “really significant economic decline or a significant increase in unemployment”.
Powell also seemed more relaxed about a recent easing of financial conditions and the fact that traders in fed funds futures do not seem to believe the central bank will have to raise rates to levels implied by officials’ projections given their expectation that inflation will moderate more quickly. He even went so far as to suggest officials could consider reversing course earlier if forthcoming data suggests.
That marked a significant de-escalation in a months-long tussle with traders who have refused to back off their wagers that the Fed will not raise the benchmark rate to at least 5 per cent and hold it there throughout the year.
The increase on Wednesday took the federal funds rate to between 4.50 per cent and 4.75 per cent. Most officials have signalled the Fed must increase it to 5.1 per cent before considering cuts in 2024 at the earliest. Yet traders’ bets suggest it will start loosening monetary policy before the end of the year.
“Perhaps Powell was in no mood to fight the market because he wasn’t convinced the market’s inflation outlook is wrong,” suggested Michael Feroli, a former Fed economist now at JPMorgan.
Powell’s comments were sufficiently dovish to cause consternation among those economists who had thought the Fed would raise rates in March and again in May before taking a breather.
For instance, Aneta Markowska at Jefferies said she was now slightly less confident in her base case that the Fed would follow though with a final quarter-point increase in May. “Whether they pause in March or May, that really is just a function of how you think the data will play out,” she said.
Not all economists are so sanguine, especially given concerns that progress on inflation could stall. Peter Hooper, global head of research at Deutsche Bank, said: “Folks who were inclined to look for things to be optimistic about picked those parts out and maybe didn’t put enough weight on the thrust of the overall message.”
Hooper, who worked for the Fed for almost 30 years, said the central bank was trying to communicate that it expected to raise rates “a couple more times . . . to get to a noticeably more restrictive level”.
Şebnem Kalemli-Özcan, an economist at the University of Maryland and a member of the New York Fed’s economic advisory panel, also warned that booming markets and even looser financial conditions could harden the central bank’s resolve.
“If equity markets keep going through the roof, then that says there is growth in the future and everything is rosy,” she said. “People start spending more, and that is what the Fed doesn’t want.”
“They don’t want people to buy stuff and they don’t want people to borrow to buy stuff,” Kalemli-Özcan added. “They want to slow down sentiment.”
