Fed chair Jerome Powell: ‘The time has come’ for interest rate cuts

United States: The Federal Reserve is ready to cut interest rates, confident that inflation is easing to normal levels and wary of any more slowing in the job market.

“The time has come for policy to adjust,” Fed Chair Jerome Powell said on Friday (US time), in his most anticipated speech of the year. “The direction of travel is clear.”

Fed chief Jerome Powell. Credit: Bloomberg

Powell did not specify a timeline, or forecast how much Fed leaders were preparing to lower rates. But his remarks came as close as possible to teeing up a cut at the Fed’s next policy meeting in mid-September. Rates currently sit between 5.25 and 5.5 per cent, where they have remained since July 2023. The open question now is whether officials will opt for a more aggressive cut next month - a half-point instead of a more typical quarter-point.

Joe Brusuelas, chief economist at RSM, called the speech a “serious policy pivot”. Brusuelas expects central bankers will ultimately bring rates down considerably – to somewhere between 3 and 3.5 per cent - by the latter half of next year, barring a major downturn.

“The key question that the Fed needs to answer is: What is the ultimate destination of policy?” Brusuelas said. “It’s now up to central bankers to map that out in its upcoming forecast and rhetoric.”

After years of fighting dangerously high inflation, Powell, in his speech at the Jackson Hole Economic Symposium, shifted notably toward the job market, which he said “has cooled considerably”. Officials have been able to justify keeping rates at the highest level in more than 20 years, in part because they weren’t seeing consequences for workers.

Now, the balance of risks has shifted from rising prices to a weakening labour market – cementing the case for rate cuts.

“We do not seek or welcome further cooling in labour market conditions,” he said.

Since the Fed’s last meeting in July, job reports have come in below expectations, and the government this week revised down some labour market estimates from 2023 and early 2024. Many Fed watchers have argued this US summer that the central bank was in danger of leaving rates too high for too long, keeping pressure on the economy to quash inflation for longer than was sustainable – or that it already had done so.

Still, not everyone shared Powell’s read on the economy. Michael Strain, director of economic policy studies at the conservative American Enterprise Institute, said inflation hasn’t yet come all the way down to the Fed’s 2 per cent target and could get stuck hovering somewhere higher. Strain said that while the job market had “softened”, it wasn’t “soft”, making a September cut premature.

“Rate cuts are certainly in our future, but they may not be appropriate until 2025,” Strain said.

Major stock indexes rose during the speech on the prospect of a rate cut next month. Before midday, the S&P 500, Nasdaq composite and Dow Jones Industrial Average were all up by at least 1 per cent.

The comments on Friday at an annual conference – filled with travel metaphors befitting a hopeful voyager – shed light on Powell’s attempts to steer the Fed’s sometimes choppy course. He looked back on the central bank’s mistaken assumption that pandemic-era inflation would be temporary, quipping that “the good ship Transitory was a crowded one”, even going off script to say he recognised “some former shipmates out here”. Referring to the Fed’s critics, he said that while he’d spelled out his assessment of the past few years, “your mileage may vary”.

Ultimately, his speech struck a more hopeful tone than in years past, when the Fed was in the thick of its inflation fight. But he made clear that the two-pronged battle to control prices without sparking widespread layoffs was not over.

“We will do everything we can to support a strong labour market as we make further progress toward price stability,” Powell said. “With an appropriate dialling back of policy restraint, there is good reason to think that the economy will get back to 2 per cent inflation while maintaining a strong labour market.”

Indeed, weakening in the job market has come into sharper relief in just the past few days. On Wednesday (US time), revised government data showed employers added 818,000 fewer jobs between April 2023 and March than reports had shown at the time. The span covered by the revisions is now far enough in the rearview mirror that it probably won’t overhaul policymakers’ insistence that the labour market remains a pillar of economic strength.

But it did complicate the Fed’s argument for keeping rates high – as did the weaker-than-expected July jobs report. That report also triggered a brutal day of trading in global markets, underscoring how consequential the Fed’s interest rate decisions are.

For months, financial markets had been eager for a concrete timeline on cuts. Now that Powell has laid the groundwork for a September trim, attention will shift to the Fed’s later meetings in November and December.

Officials rarely forecast that far ahead, preferring to leave options on the table. This year also brings the added challenge that the economy could look different depending on who wins the presidential election. Much as the Fed tries to avoid politics at all costs, expected cuts in the next few months would end up giving a bit of juice to the economy before November, even as Democrats and Republicans try to sell voters on their pitches to lower costs and create new jobs. (The Fed’s November meeting falls the week of the election.)

Upcoming cuts would probably end up being more beneficial to Vice President Kamala Harris, who has campaigned in part on the economy’s strength under President Joe Biden. Still, Harris’s populist policy agenda could also stoke inflation by, for example, boosting housing demand, even as her campaign emphasises lowering everyday costs.

Meanwhile, economists broadly expect that GOP nominee and former president Donald Trump’s proposals for mass deportations and higher tariffs would send prices up, as well. Trump has also suggested that presidents should have more control over monetary policy, long considered the Fed’s responsibility free from interference by elected officials. Just this week, Trump also attacked the Bureau of Labour Statistics for its hefty jobs revisions, even though the agency revised its estimates under his administration, too.

Adam Posen, president of the Peterson Institute for International Economics, said there is a clear risk that inflation will worsen in 2025, “more likely and larger if Trump wins”. If prices heat back up, the Fed could be pushed to reverse course yet again.

“This sets us up for a nasty surprise pivot in monetary policy – and that pivot will be more disruptive and damaging precisely because the chair and [Fed] have forsaken talking about anything but the immediate outlook,” Posen said.

Zoomed out, the US economy is in impressive shape. Inflation in July cooled to the lowest level since spring 2021, and the unemployment rate is still low. Consumers haven’t yanked back on spending. The US economy is also resilient compared with peer nations, many of which send their own central bankers and economists to this confab in the Grand Tetons.

But Powell and his colleagues don’t do much celebrating, mindful that the economy has bested their predictions again and again. Last year, Powell took the podium to say that there was still ground to cover on inflation. And in 2022, Powell issued a concise, direct warning that stabilising the economy would cause “some pain” for Americans and probably weaken the job market.

Back then, it seemed all but guaranteed that the Fed would have to cause a recession to vanquish inflation. But that pain never materialised, and there still isn’t a downturn in sight as the Fed prepares to cut.

Speaking to Bloomberg TV after Powell’s speech, Philadelphia Fed President Patrick Harker said he doesn’t hear that people in his district are overly concerned about a quarter-point versus half-point cut. Instead, businesses are looking for assurance that the Fed has a plan.

He summed up the advice he hears as: “Don’t just stop and start. … Start a process and keep it moving.”

The Washington Post

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