Last year, during his speech at the Federal Reserve Bank of Kansas City’s annual convention in Jackson Hole, Wyoming, Jerome H. Powell addressed the issue of escalating inflation, which had reached a high of 9 percent. At that time, the Fed was on the brink of implementing rate reductions to counteract the rising prices. Mr. Powell took advantage of this opportunity to issue a strong statement, emphasizing the commitment of central bankers to persistently work towards resolving the inflationary challenges until they were successfully addressed.
A year has passed and the situation has changed considerably. The housing market has been affected by increased rates, leading to a decrease in activity. Additionally, improvements in supply chains and lower gas prices have resulted in a significant reduction in inflation, which now stands at 3.2 percent as of July.
Instead of issuing a cautionary statement that the central bank is ready to induce a recession to control excessive inflation, Fed officials are now indicating a previously unimaginable approach: maintaining a continuous cooling of the economy.
Mr. Powell, who is due to speak on Friday morning at the conference, is anticipated to reiterate the need for the Fed to further normalize inflation. However, there is speculation among economists and investors that he might adopt a slightly less assertive position compared to last year.
Harvard University economist Jason Fuhrman stated that he anticipates Jay Powell to refrain from using phrases like ‘mission accomplished’ and suggested that there is no need for him to sound foreboding, unlike last year when Powell aimed to intimidate.
Mr. Powell’s somber tone a year ago, wherein he expressed the Fed’s intention to cause economic distress in order to combat inflation, served as a partial admonishment to skeptical investors who doubted the Fed’s commitment to increasing interest rates. The impact of his remarks was felt throughout the financial markets.
However, this year, market participants have grasped the seriousness of the central bank’s intentions. While they anticipate the Federal Reserve to either increase interest rates or come close to doing so, robust economic indicators have also raised the prospect of the central bank maintaining high interest rates for a prolonged duration.
The recent increase in the 10-year Treasury yield, reaching a record high of over 4.3 percent, is particularly noticeable in the bond market. This rise in yield has had a significant impact on lending throughout the economy, as seen by the current effects. Mortgage rates have surged to their highest level in over twenty years, resulting in a sharp decline in new loan applications, the lowest in nearly thirty years, as reported by the Mortgage Bankers Association. This rise in borrowing costs for home purchases and business expansions could potentially have a negative impact on the economy, despite low inflation rates, due to the substantial fluctuations in interest rates observed in the past year.
Despite the current strength of the data, with consumer spending and hiring surpassing expectations, there are still concerns that the resilient economy could falter if the Fed delays its policy easing. This occurrence is not uncommon.
Last month, unforeseen deceleration in both the manufacturing and services sectors was indicated by new data, raising concerns as consumers are now tapping into their pandemic savings. Some companies have issued warnings about the potential negative impact on their profits.
Citigroup’s interest rate strategist, Bill O’Donnell, described it as a reality check.
According to certain economists, these risks serve as a justification for the Federal Reserve to exercise caution. Currently, interest rates have been raised to the highest point in 22 years, ranging from 5.25 to 5.5 percent. Although there is contemplation of another increase before the year concludes, some experts argue that such action is unwarranted in an economy experiencing decreasing inflation and numerous policy adjustments already underway.
However, despite the economy’s remarkable resilience, the Fed now confronts a more substantial peril. Inflation, which remains significantly elevated at 4.7 percent when excluding unpredictable food and fuel prices, may persist at elevated levels due to ongoing consumer spending and businesses realizing they can demand higher prices.
It is probable that this will cause Mr. Powell to remain resolute.
According to analysts, the increase in Treasury yields could potentially mitigate the risk of sustainable inflation by decreasing demand.
Gennady Goldberg, rate strategist at TD Securities, stated that the current movement of rates aligns with the Federal Reserve’s objectives. There was previous worry about easing financial conditions, but the situation has now reversed. Goldberg emphasized the importance of slowing down growth, which can be achieved through tighter financial conditions.
According to JPMorgan’s chief US economist, Michael Feroli, the recent increase in market-based interest rates should provide reassurance to officials that their policies are effectively impacting the economy and will continue to have a slowing effect. This comes after a period of speculation where commentators questioned why the Federal Reserve’s actions were not being met with a stronger response in financial conditions.
According to Mr. Ferroli, the removal of a puzzle or a source of concern would likely be somewhat welcome.
Mr. Ferroli anticipated that Mr. Powell would avoid giving any indications about near-term policies in his Friday remarks, as there is still a significant amount of crucial data yet to be released before the Federal Reserve’s September 20 meeting.
However, due to the already high interest rates and various looming risks, such as the expiration of student loan payment moratoriums and disappointing growth in China, among other factors, Mr. Saw has chosen to adopt a more subdued tone in his message to the market.
Mr. O’Donnell, commenting on the increasing yields and a decelerating economy, stated, “This is precisely in line with the Federal Reserve’s intentions.” He questioned, “Why exacerbate the situation further?”
