Smaller Rate Hikes Ahead, but ‘Long Way to Go’ in Battle Against Inflation, Powell Says

Smaller Rate Hikes Ahead, but ‘Long Way to Go’ in Battle Against Inflation, Powell Says

Federal Reserve Chair Jerome Powell said Wednesday that less aggressive interest rate hikes are on the horizon, with a smaller increase coming as soon as next month. At the same time, Powell told attendees at an event held by the Brookings Institution that “inflation remains much too high” in the U.S., and indicated that Fed plans to maintain tight monetary conditions for longer than previously expected. “Despite some promising developments, we have a long way to go in restoring price stability,” he said.

Powell’s comments bolster analysts’ expectations that the Fed will raise its key interest rate by 50 basis points at its final 2022 meeting in two weeks, a step down from the historic 75-basis-point hikes enacted at each of the last four meetings. But Powell also made it clear that rates could hit a relatively high peak and stay there for longer.

The Fed’s view: Powell said that there are some encouraging signs in the Fed’s battle against inflation, including an easing of price increases for core goods. But housing inflation remains high, even as it shows signs of easing, and core service prices — which include wages — remain uncomfortably hot.

“In the labor market, demand for workers far exceeds the supply of available workers, and nominal wages have been growing at a pace well above what would be consistent with 2% inflation over time,” Powell said, adding that there are only “tentative signs” that the market is “rebalancing.”

The labor market continues to feel the effects of the Covid-19 pandemic, Powell said, with a shortfall of about 3.5 million workers, including more than 2 million people who retired early. “Participation dropped sharply at the onset of the pandemic because of many factors, including sickness, caregiving, and fear of infection,” he said. “Many forecasters expected that participation would move back up fairly quickly as the pandemic faded. And for workers in their prime working years, it mostly has. Overall participation, however, remains well below pre-pandemic trends.”

A soft landing? Powell said he still thinks the Fed can bring inflation under control without causing a recession. “I do continue to believe that there’s a path to a soft or softish landing,” he said. “I think it’s still achievable.”

Economic data released Wednesday provide some support for Powell’s optimism. Third-quarter economic growth has been revised to 2.9%, the Bureau of Economic Analysis said, up from the 2.6% initial estimate.

Estimates for fourth-quarter growth vary widely, from 1% to more than 4%, but most analysts expect the economy to keep growing, bolstering hopes that it can avoid a downturn any time soon.

“The Federal Reserve’s rate hikes to date have mostly just sent the housing sector into a recession where the rest of the economy continues to run fairly smoothly,” Christopher Rupkey, chief economist at research firm Fwdbonds, said. “If the Fed is trying to slow the economy by hitting the brakes, they haven’t done enough yet.”

The bottom line: Analysts expect to see a 50-basis-point rate hike by the Fed in December, with additional — though perhaps smaller — rate hikes after that. Wherever rates end up, though, Powell warned that the Fed may feel the need to keep them relatively high for a significant period. “It is likely that restoring price stability will require holding policy at a restrictive level for some time,” he said. “History cautions strongly against prematurely loosening policy. We will stay the course until the job is done.”