Powell defends rate hikes amid criticism and confusion

Powell defends rate hikes amid criticism and confusion
© Anna Moneymaker

Federal Reserve Chairman Jerome Powell on Friday defended the central bank’s plans to gradually hike interest rates, citing the strength of the U.S. economy and new uncertainty about how it operates.

Powell said that the Fed would continue to raise interest rates as the economy expands and unemployment lingers at near-record lows, resisting calls to maintain easy money policies while inflation remains stable.

The chairman said bringing interest rates back toward levels the Fed sees as neutral is the safest approach to managing an economy that has raised questions about the central bank’s diagnostic tools for shaping monetary policy.

“If the strong growth in income and jobs continues, further gradual increases in the target range for the federal funds rate will likely be appropriate,” Powell said in a speech at the Fed summit in Jackson Hole, Wyo.

Fed officials have debated over the pace at which they should normalize interest rates after slashing them to near-zero levels during the 2008 financial crisis. The bank has raised rates seven times since 2015, twice this year, and is expected to do so again in September and December.

President TrumpDonald TrumpFive takeaways from the Ohio special primaries Missouri Rep. Billy Long enters Senate GOP primary Trump-backed Mike Carey wins GOP primary in Ohio special election MORE has ripped the Fed and Powell for raising interest rates, which he says will needlessly stifle economic growth and hurt the U.S. in trade negotiations. But Powell has brushed off that criticism and said the White House would have no impact on monetary policy.

The U.S. economy has grown at a great pace and boasts a tight labor market, which typically prompts the Fed to pull back stimulus. Hawkish members of the Fed board have expressed fears that moving too slowly could risk rampant inflation, but more liberal officials see no need slow down the economy while prices stay mostly stable.

St. Louis Federal Reserve President James Bullard said Friday that the central bank should hold off on rate hikes for the rest of 2018, while Cleveland Fed President Loretta Mester backed further increases.

The Fed’s efforts to strike that balance have been complicated by a new challenge to the long-assumed relationship between unemployment and inflation. Low unemployment has long been thought to increase the pace of price growth because of greater economic activity.

The U.S. jobless rate is currently 3.9 percent, well below the 5 percent target the Fed has considered the minimum level for stable prices. But inflation has just risen to the Fed’s 2 percent target range after years of low levels, and it does not appear to be accelerating.

Economists have been puzzled by the lack of corresponding wage and price growth to the tight labor market. Fed officials have been forced to question the location of its “guiding stars” of economic policy, said Powell: the assumed levels for the natural rate of unemployment, neutral interest rate and stable inflation.

“Navigating by the stars can sound straightforward,” Powell said. “Guiding policy by the stars in practice, however, has been quite challenging of late because our best assessments of the location of the stars have been changing significantly.”

Powell said the uncertainty about how low unemployment could go without triggering rampant inflation called for an approach focused on risk-management. He argued that gradual interest rate hikes would do less potential harm to the economy than basing policy on changing assumptions about the relationship between inflation and unemployment.

Powell cited former Fed Chairman Alan Greenspan’s decision to not raise rates during the mid-1990s as unemployment decreased and growth expanded, but inflation stayed largely steady.

He argued that while some economists were concerned that the uptick in activity would spike prices, Greenspan correctly predicted that greater productive capacity unlocked by technology would stave off inflation risks.

“When you are uncertain about the effects of your actions, you should move conservatively. In other words, when unsure of the potency of a medicine, start with a somewhat smaller dose,” Powell said.

“Given what the economy has shown us over the past 15 years, the need for the sort of risk‑management approach that originated in the new-economy era is clearer than ever before.”