US Fed chairman warns rates could go beyond 5.5pc, even if inflation falls

Chairman Jerome Powell says the US Federal Reserve could still lift its official interest rate beyond 5.5pc, the highest level in 22 years, even as inflation continues to fall.

Jerome Powell said twice that the Fed would ‘proceed carefully’, which investors took as a sign the Fed would take a pause after a rapid series of interest rates increases. Picture: AFP

US Federal Reserve chairman Jerome Powell has said the Federal Reserve could still lift its official interest rate beyond 5.5 per cent, the highest level in 22 years, as inflation continued to fall back toward the central bank’s 2 per cent target.

The chance the world’s most powerful central bank will lift its key rate to 5.75 per cent at its next scheduled meeting next month remained a little below 20 per cent after Mr Powell’s carefully calibrated remarks on Friday (Saturday AEST), according to prices in financial markets.

Speaking at the annual conference of central bankers in Jackson Hole, Wyoming, Mr Powell said twice said the Fed would “proceed carefully”, which investors took as a sign the Fed would take a pause after a rapid series of interest rates increases that pushed Fed’s official rate from zero in early last year to 5.5 per cent.

“Although inflation has moved down from its peak – a welcome development – it remains too high,” Powell said in his carefully prepared and closely watched remarks.

“We are prepared to raise rates further if appropriate and intend to hold policy at a restrictive level until we are confident that inflation is moving sustainably down toward our objective,” he told the audience, which included Reserve Bank governor Philip Lowe, who will step down as governor of the Reserve Bank next month.

The US economy has surprised economists this year, delivering strong employment and economic growth despite rapid increases in interest rates and the expiration of unprecedented fiscal stimulus paid to households and businesses throughout the Covid-19 pandemic.

The interest rate on a 30-year fixed rate home loan, the most popular kind in the US, has almost doubled from 2.8 per cent a year ago to 5.5 per cent. Picture: Getty Images

The unemployment rate has hovered below 4 per cent since the beginning of last year, while GDP growth was revised up to an annualised rate of 2.4 per cent in the second quarter, confounding repeated predictions of a US recession.

Chairman Powell said evidence that the economy, which Fed economists no longer expect to fall into recession, was growing more quickly than expected “could put further progress on inflation at risk and could warrant further tightening of monetary policy”.

Krishna Guha, vice chairman of Evercore ISI, told The Wall Street Journal that Powell sounded “like a man who thinks he is probably done raising rates and sees a stern tone as providing hawkish aircover for shifting gradually”.

US inflation, dormant in the US and throughout the developed world since the global financial crisis in 2008, surged beyond 8 per cent by mid-2022 as US states lifted pandemic restrictions and households and businesses began to spend unprecedented fiscal stimulus.

US economist Steve Hanke with former Indonesian president Suharto in 1998.

Steve Hanke, a professor of applied economics at Johns Hopkins University, disputed the Fed’s cautiously confident outlook, predicting the US would tumble into recession next year given the volume of money and credit had been shrinking for over six months – by 3.7 per cent over the 12 months to June.

“We haven‘t seen that since 1938, and this has been going on for a long time … and if you look at credit growth at commercial US banks that’s falling like a stone too,” he told The Australian in an interview.

Professor Hanke said changes in the money supply, a potential indicator of economic activity that went out of fashion in central banking circles in the 1980s, tended to affect economic activity with a lag of between six and 18 months.

The chance of a rate hike in the November or December, the last two meetings of the year, was around 50 per cent, according to market pricing.

The Fed chairman, reappointed for a second term by Joe Biden last year, stressed 2 per cent would remain the Fed’s inflation target despite pressure from some Democrat politicians to lift it so as to reduce pressure on the central bank to keep interest rates high.

The average US 30-year home loan rate hit 7.23 per cent in July, the highest in 22 years.