Federal Reserve Chairman Jerome Powell was unusually specific when he told senators last week that he will recommend a quarter-point hike in interest rates at the Federal Open Market Committee meeting next week.
It was not an extraordinarily brave statement. Though it sounded hawkish, it effectively removed speculation that the Fed would raise rates by more—like a half-point—as some policymakers suggested.
At the same time, Powell pointed out that the war in Ukraine would likely contribute to increased inflation, pushing up global prices on oil, gas, and other commodities which have already been accelerating.
Investors reacted positively to the news that the Fed would limit its increase to a quarter-point. Others, however, were less happy.
Bill Dudley, the former head of the New York Fed, acknowledged that the central bank had little choice at this point but to proceed cautiously, and a half-point hike is off the table. But he added that policymakers were four or five quarter-point hikes behind where they should be by now.
Adam Posen, head of the Peterson Institute, agreed. “The Fed has lost its bet,” he said in a German newspaper interview. The US central bank waited too long to intervene on inflation without jeopardizing the economic upswing.
Both he and Dudley agree that the European Central Bank is not as far behind. It faces a different situation—inflation is not as high, the labor market is not as tight, and the impact from Ukraine could be much greater.
Harvard economist Larry Summers, the former Treasury secretary, told Bloomberg the Fed has no alternative but to make a strong move to counter inflation.
“I think we are at or over the brink of a spiral of rising inflation breaking out. The place you’re seeing it most clearly is in the wage data and the data on vacancies, which are pointing to wage inflation at close to 6% and pressures for that to accelerate. And I think that needs to be ringing all the alarm bells at the Fed. So, I think there’s much more risk of the Fed doing too little than there is of the Fed doing too much at a moment like this.”
Summers thinks investors have not priced in how high interest rates will have to go to bring down inflation and avoid a "financial accident."
Late To Pull The Trigger, But How Many Hikes Will Be Enough?
Under questioning during his Semiannual Senate Testimony, Powell said the Fed will not tolerate a long interval of high inflation, even if it means raising interest rates high enough to block growth. When asked specifically if he would imitate former Fed Chairman Paul Volcker in raising rates as high as needed, causing a recession if necessary, Powell answered, “I would hope history will record that the answer to your question is yes.”
Powell maintained for months last year that burgeoning inflation was a transitory phenomenon due to supply-chain disruptions. “Hindsight says we should have moved earlier,” Powell said at the Senate hearing last week, “but there really is no precedent for this.”
The February jobs report on Friday showed that hiring remained strong, as the economy added 678,000 jobs, pushing the unemployment rate down to 3.8%. The data can only reinforce the Fed’s intention to raise rates, while flat wages support Powell’s measured approach.
The consumer price index due out this week is likely to further strengthen the Fed’s resolve, with forecasts of a 7.8% increase on the year.
Chicago Fed president Charles L. Evans, speaking after the jobs report on Friday, said the FOMC could get its benchmark rate close to the 2% considered neutral in its impact on the economy if it raised it by a quarter-point at each of the seven remaining meetings this year.
He told CNBC that might be more than he considers necessary, but getting to a target of 1.75 - 2% by the end of the year would be "close enough to neutral that we could take quick action if it were necessary, or we could stick or we could back off."