Pressure builds for Fed chief as inflation surges
The Federal Reserve is facing growing scrutiny from Wall Street and Washington over its cryptic plans to eventually pull back stimulus from an economy that’s starting to struggle with inflation.
Fed watchers are eagerly seeking clarity from Chairman Jerome Powell about when the central bank aims to pare down the monthly purchases of bonds meant to dampen the economic blow of COVID-19.
The bank has purchased $80 billion in Treasury bonds and $40 billion in mortgage-backed securities every month since March 2020, when it slashed key interest rates to between zero and 0.25 percent.
The bond purchases are intended to reduce borrowing costs even further by pumping more cash into the economy. While such steps were welcome news when the pandemic took hold, markets are now looking to the Fed for signs of when it plans to pull back.
Investors, economists and policymakers will be paying close attention to Powell’s press conference Wednesday after the Federal Open Market Committee finishes a two-day meeting in Washington to discuss the Fed’s future monetary policy moves that will undoubtedly have political ramifications as next year’s midterm elections draw near.
Powell and top Fed officials have argued for months that a recent jump in inflation is little more than a temporary side effect of the recovery from the pandemic. A broad range of economists back up the Fed’s view, arguing that price surges from pandemic lows and short-term supply constraints are the main drivers of rising costs.
“I don’t think they’re under any pressure in terms of tightening the policy rate or shrinking their quantitative easing or asset purchase program at the time,” said David Beckworth, senior research fellow at the libertarian-leaning Mercatus Center at George Mason University.
“This is all a supply-side story, and those things will correct themselves.”
Even so, several months of higher-than-expected inflation readings are deepening concern about the combined impact of fiscal and monetary stimulus — including Republican lawmakers who could play a role in determining whether President Biden nominates Powell for another term before his current one expires in February.
Those fears reached a new peak last week when fresh data showed a 0.6 percent jump in the consumer price index in May that pushed annual inflation to 5 percent, the fastest rate since 2008.
“The Fed wants inflation above target, for a while. But the danger of a sustained increase beyond the Fed’s comfort zone has to be a real threat post-Covid, given the uncertainty over labor supply and the gigantic increase in liquidity across the economy,” wrote Ian Shepherdson, founder of Pantheon Macroeconomics, in a Monday research note.
The Fed in 2019 adopted a new approach to inflation that called for allowing price and wage increases to run slightly above the bank’s 2 percent annual target to make up for years of shortfalls. Powell acknowledged when announcing the change that the Fed had cut short previous economic expansions too soon by hiking interest rates over fears, but not evidence, of steadily rising inflation.
Determined to avoid the same mistake, Powell and other Fed officials have stressed throughout the pandemic that they will not raise interest rates or begin whittling down other stimulative measures without “substantial further progress” toward a full recovery.
“Remaining steady in our outcomes-based approach during the transitory reopening surge will help ensure the economic momentum that will be needed as current tailwinds shift to headwinds is not curtailed by a premature tightening of financial conditions,” said Fed board member Lael Brainard in a speech at the Economic Club of New York this month.
“The best way to achieve and sustain our maximum-employment and average-inflation goals is by remaining steady and clear in our approach while also being attentive to changing conditions.”
But inflation hawks have cited the solid but uninspiring average of 540,000 jobs added over the past three months, widespread reports of hiring difficulties and lower-wage workers holding out for better pay as red flags of an overheating economy.
And other critics of the Fed’s approach say allowing near-zero interest rates and steady bond purchases to add further fuel to soaring stock prices will only deepen historically high economic inequality. While easy monetary conditions are intended to fuel job creation and economic activity, they can also encourage more speculative forms of investment since low interest rates lead to little growth for savers.
“The new policy has been unintentionally but powerfully unequal, and a spike in inflation will be very powerfully anti-equality,” said Karen Shaw Petrou, author of “Engine of Inequality: The Fed and the Future of Wealth in America.”
“It’s continued increase in its portfolio combined with rates that are negative in inflation-adjusted terms just drives not only a tremendous amount of wealth inequality, but also distortions in productivity.”
Powell and supporters of the Fed’s approach counter that it’s far too soon to cut back on monetary support when more than 7 million jobs lost to the pandemic are still unreplaced and millions of Americans have not yet been able to return to the labor force for a variety of reasons. Other policymakers at the Fed largely agree with Powell, with none forecasting an interest rate hike until the end of 2022 at the earliest, after the midterm elections.
But even with the increased scrutiny over the Fed, Beckworth suggested it could help Powell politically in the long run. Biden has only a few months before he must decide whether to replace Powell with a more progressive choice as Fed chair, a potentially risky prospect with the bank amid a push to stay unified around its approach to inflation laid out in 2019.
“We’re not completely out of the woods yet, so, in my view, it’s good to maintain continuity and leadership to make this work,” Beckworth said.