The Fed Signals It Isn’t Done Yet

Article originally posted on CoStar on August 25, 2023

Federal Reserve Chairman Jerome Powell took a firm position in his keynote speech at the Kansas City Federal Reserve Bank’s annual retreat in Jackson Hole, Wyoming, with his opening message previewing the rest of his address: “It is the Fed’s job to bring inflation down to our 2 percent target, and we will do so.”

He went on to discuss the causes of that inflation, including pandemic-related supply constraints facing a surge of pent-up demand, exacerbated by the war in Europe. While noting that progress has been made on the Fed’s battle against inflation, Powell added, “the process still has a long way to go, even with the more favorable recent readings.”

Overall inflation has eased from its peak of 7% in June of last year, according to the personal consumption expenditures price index. The latest reading, for June 2023, was 3%, but the core index, which excludes the volatile categories of food and energy and is the Fed’s preferred measure of inflation, remains higher at 4.1%. This measure has moved sideways for more than two years and remains twice the Fed’s target rate. An update of this data will be released at month’s end.

Powell identified two conditions under which additional rate hikes might be warranted. The first was continued evidence of above-trend economic growth. The economy grew 2% in the first quarter of the year on a seasonally adjusted annual basis but accelerated to 2.4% in the second quarter, defying expectations of slowing growth after more than a year of rising interest rates. That momentum going into the third quarter portends more above-trend growth, supported by strong consumer spending.

The second condition that could justify another rate increase, according to Powell, would be if the tightness evident in the labor market does not ease. Job openings, at 9.6 million in June, signal strong demand for workers, and while monthly job gains appear to be slowing, initial claims for unemployment benefits remain quite low, suggesting that people who have been laid off are finding replacement jobs.

In his speech, Powell also confirmed the Fed’s commitment to its 2% inflation target, swatting away recent suggestions that the Fed could simply raise its target rate and declare the fight to curb inflation finished. “Doing too little could allow above-target inflation to become entrenched,” he said, which certainly appears to be a signal that another rate hike is still on the table.

Concluding his remarks by recognizing the risks of being either too restrictive or not restrictive enough, Powell lamented that much uncertainty remains. “We are navigating by the stars under cloudy skies,” he said, marking a poignant end to a summer that has seen the economy outperform expectations.