By Steven K. Beckner
(MaceNews) – Federal Reserve Chairman Jerome Powell pledged Tuesday the Fed will move “patiently” and with plenty of advance notice before it firms monetary policy.
Powell, testifying before the Senate Banking Committee on the Fed’s semi-annual Monetary Policy Report to Congress, downplayed risks of excessive inflation and financial instability.
He largely dismissed explosive growth in the money supply, and interpreted rising bond yields as basically a market vote of confidence in the economic outlook and Fed policies.
Powell’s testimony, which he will reprise Wednesday before the House Financial Services Committee, comes three weeks ahead of the year’s second Federal Open Market Committee meeting, when the Fed’s policy-making body will announce revised economic and federal funds rate projections and review its monetary policy stance.
In late January, the FOMC left the funds rate in a zero to 25 basis point target range and said it “expects it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time.” It reiterated it will “continue to increase its holdings of Treasury securities by at least $80 billion per month and of agency mortgage-backed securities by at least $40 billion per month until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.”
The FOMC is not expected to announce any policy changes on March 17.
Powell was not specific about when the Fed will reduce or otherwise adjust its asset purchase program, but in prepared testimony indicated the Fed has a long way to go before it will be ready to slow asset purchases, which the Fed has previously indicated is a prerequisite for lifting off from the zero lower bound.
While anticipating “an improved outlook for later this year,” he said, “the economy is a long way from our employment and inflation goals, and it is likely to take some time for substantial further progress to be achieved.”
Powell also suggested there will be a long lead time ahead of any tapering by vowing to “clearly communicate our assessment of progress toward our goals well in advance of any change in the pace of purchases.”
Referring to the Fed’s revised long-run strategy, Powell also reiterated, “we will not tighten monetary policy solely in response to a strong labor market.”
Powell echoed those themes as he responded to questions from the panel. There was particular concern about how long the Fed can continue to buy $120 billion of bonds per month and leave short-term interest rates near zero as the recovery continues and price pressures build.
The Fed chief acknowledged there could be price pressures in coming months because “we could see spending pick up substantially,” but added, “It doesn’t seem likely they would be very large increases or that they would be persistent.” As he has done before, he pointed to entrenched global “disinflationary forces” that “don’t change on a dime.”
Powell said “if it does turn out that unwanted inflation pressures arise and are persistent we have the tools to deal with that,” but repeated he does not expect that.
Elaborating, he said the Fed would use its “classic” monetary tools, but said, “I really do not expect we will be in a situation where inflation rises to troubling levels…at this point we see inflation running moderately above 2% for some time.. “
“The real question is: are we going to find ourselves (in a situation) where inflation expectations are de-anchored and is persistent….,” he went on. “We got into that in the ‘60s and ‘70s, and we have no intention of repeating that… (But) it’s not a problem for this time ….”
Asked about double-digit growth in the M2 monetary aggregate, Powell suggested the linkage between money supply growth, output growth, and inflation has been discredited.
“That classic relationship between the monetary aggregates and the size of the economy just no longer holds,” he said, noting “we have had big growth of monetary aggregates without inflation.”
Nor did Powell see any connection between unprecedented federal budget deficits and inflation.
“There was perhaps once a strong connection between budget deficits and inflation,” he said, but “there hasn’t been lately .…”
“My expectation is that inflation will probably be a bit volatile over the next year or so” due to he after effects of the pandemic,” he continued. “I expect we will see a slight increase in a few months because of base effects.… We may also see upward pressure on prices as the economy reopens…”
“But I don’t think those effects should be either large or persistent because we have had decades of well anchored inflation expectations,” he added.
Indeed, inflation risks are more “to the downside,” he said in response to a question about rising oil prices.
He repeatedly made reference to the 10 million people who remain unemployed since the start of the pandemic, suggesting he is more concerned about restoring full employment than about inflation risks.
“We’re a long way from maximum employment,” he said, adding that therefore growth of the Fed’s balance sheet “is going to continue to provide the support the economy needs” through asset purchases.
“Over time they will slow… (but) asset purchases will continue until we make substantial further progress toward our goals,” he added. “There is a long way to go,” Powell said, noting that the unemployment rate is “in excess of 20%” for the bottom fourth of the population.
Therefore, monetary policy “needs to remain accommodative…,” he said. “our forward guidance is appropriate… We will move patiently over time as we see the data come in… “
While the economy has made progress, it has not been enough, according to Powell, adding that he “expect(s) us to move carefully and patiently and with a lot of advance warning.”
Powell was testifying amid an ongoing Congressional debate over passage of an additional $1.9 trillion in fiscal stimulus, which has divided even some Democrats. Harvard economist and former Treasury Secretary Lawrence Summers, for instance, warned earlier this month “there is a chance that macroeconomic stimulus on a scale closer to World War II levels than normal recession levels will set off inflationary pressures of a kind we have not seen in a generation, with consequences for the value of the dollar and financial stability.”
Asked about such concerns, Powell declined to comment on specifics of the package, but told the Senators fiscal stimulus is “essential” to recovery and told them this is not the time to worry about the size of the federal deficit.
“We will need to get back on a sustainable fiscal path” by “get(ting) the economy growing faster than the debt,” he said, but “it doesn’t need to happen now… Certainly in the long run …we will need to return to…this issue, but I wouldn’t return to it now.”
Risks to financial stability have become an increasing concern for some observers, including a number of Fed officials, but Powell downplayed those concerns in response to repeated questions about asset bubbles.
Powell said asset prices are only “one thing” the Fed looks at when assessing financial stability risks, and added, “no one can really identify” bubbles. “People have different perspectives …. I don’t have an opinion.”
In recent days, stock prices have retreated from their highs as rising inflation expectations have pushed up bond yields. The 10-year Treasury note yield has climbed to 1.362% from 0.9170% at the start of the year and as low as 0.3980% last March. To this point, far from expressing concern, Fed officials have welcomed the uptrend in inflation expectations and yields as evidence their expansionary policies are working.
Powell had a similar tone. He said rising bond yields, as well as rising asset prices, are “really related to…expectations that the recovery is going to be stronger sooner, more complete. That’s okay…’
He added, again, that “we’re focused honestly on providing the support the economy needs to get to maximum employment and stable prices…”
Asked about falling Treasury bill rates and the risk of negative money market rates, Powell attributed the decline in T-bill rates to strong demand, which he called an issue for the Treasury, not the Fed.
Powell did not see a problem with collateral in the repo market, but said the Fed is going to be making a determination as to whether to extend a change in its supplementary leverage ratio that it announced on April 1 of last year to ease strains in the Treasury market resulting from the coronavirus. The rule is due to expire at the end of March.
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Contact this reporter: steve@macenews.com.
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