– War Exerts “Upside Risks’ On Inflation, ‘Downside Risks’ On Employment
– Must Be ‘Mindful’ To Keep Inflation Expectations ‘Anchored’
By Steven K. Beckner
(MaceNews) – Federal Reserve Chair Jerome Powell gave no indication Monday of when or how the Fed might adjust short-term interest rates, saying monetary policy is “in a good place to wait and see” how the Iran war “shock” will impact the Fed’s goals of maximum employment and price stability.
Powell said there are both “upside risks” to inflation and “downside risks” to employment which he and his fellow monetary policymakers will have to weigh as they consider whether to resume rate reductions.
Powell, speaking to a Harvard University Principles of Economics class, said the Fed’s “tendency” is to “look through” oil price shocks. Likewise, he said the Fed’s assessment is that higher tariffs are a “one-time” effect on prices.
But he added the critical caveat that the Fed must make sure inflation expectations don’t accelerate. So far, he said inflation expectations are “pretty well-anchored.”
The Fed chief, whose term expires May 15 but who has said he will stay on until his nominated successor Kevin Warsh is confirmed by the U.S. Senate, hedged when asked about the risks of a new financial crisis, saying that while large banks are well-capitalized, risks in the private credit market must be watched “super carefully.”
Powell’s discussion with Harvard students comes less than two weeks after the Fed’s policymaking Federal Open Market Committee left the federal funds rate unchanged for a second straight meeting in a target range of 3.50-3.75%, after cutting that key money market rate by 75 basis points in the final three meetings of 2025 and 175 basis points since September 2024.
In their revised Summary of Economic Projections, the 19 FOMC participants projected a single 25 basis point rate cut by the end of 2026, taking the funds rate down to a target range of 3.25% to 3.50% (a median 3.4%).
In a revised policy statement on March 18, the FOMC declared that “the implications of developments in the Middle East on the economy are uncertain.” In his post-FOMC press conference that day, Powell said “we just don’t know” how Middle East developments will evolve. Therefore, he said, the FOMC’s best course is to “wait and see” whether it should change its “moderately restrictive” policy stance.
Powell continued in much the same vein in his comments at Harvard.
Faced with yet another “supply shock” while still coping with the impact of tariffs, he said the economy faces both “downside risks to the labor market, which suggests keeping rates low, and upside risks to inflation, which suggest you don’t keep rates low.”
At this time, while the war against Iran is ongoing with an uncertain end, Powell made clear he is disinclined to move rates in either direction soon, but he repeated what he said after the FOMC meeting – that monetary policy is “well-positioned” to respond as needed eventually.
After inflation rose to over 9% after the pandemic, it had “pretty much gotten to” the Fed’s 2% target by the end of 2024, without a recession, Powell said, adding that the Fed had achieved “a soft landing.”
Then, he said, President Trump’s tariff hikes caused new price pressures, which he quantified as 0.5 to 0.8 percentage points, which he called a “one-time” effect.
“Now,” however, “we’re facing events in the Middle East” that are driving up gas and other prices, Powell continued.
But he added that monetary policy is “in a good place” to handle any economic effects of the war.
Powell referred to the energy price shock from the war as “another supply shock” with which the FOMC will have to cope. But he gave no hint as to when or how it will respond.
“It’s way too early to know…,” he said, repeating that “policy is in a good place to wait and see.”
Powell did, however, strongly suggest that inflation and fear of inflation must be the paramount concerns for monetary policy.
“In the current situation we have to be mindful of the broader context,” he said. “We’ve been coming down to 2%, but we’ve never actually gotten there and stayed; we’re very mindful of that.”
For now, Powell went on, “inflation expectations appear to be well anchored,” at least for the long-term, but the Fed must make sure they stay anchored.
‘We may eventually face the question of what to do, but we’re not facing it yet,” he added.
Powell’s remarks follow a host of comments from other Fed officials last week – nearly all of them supportive of leaving monetary policy on hold until the cloud of economic uncertainties clear, the notable exception being Gov. Stephen Miran who dissented on March 18 in favor of a 25 basis point rate cut.
On Friday, Richmond Fed President Tom Barkin said that at the recent FOMC meeting “with risks to both the labor market and inflation, and the outlook foggy, it felt prudent to hold rates and await more clarity on how we should be leaning to best support the economy going forward. I for one am hoping to see some of this fog burn off.”
Philadelphia Fed President Anna Paulson said Friday that “the conflict in the Middle East has created new risks to both inflation and growth.” But she leaned toward greater concern about the former.
“If the unemployment rate is high, there is clearly more room to be patient,’ she said. “In a situation like today though, where we are closer to full employment, the calculus is trickier.”
The day before that, Fed Vice Chairman Phillip Jefferson said the war poses both upside risks to inflation and downside risks to employment, but he echoed Fed Chair Powell in saying monetary policy is “well positioned” to respond to economic developments.
Governor Lisa Cook said last Thursday that the war has tilted the balance of risks “more to inflation,” although she said a “precarious” risk to employment also bears close watching.
And Gov. Michael Barr said the Fed needs to be “especially vigilant” to prevent oil price pressures from unhinging inflation expectations and said it should “take some time” to assess the economic impact of the war. And he said the current policy stance puts the Fed “in a good place to hold steady” while it does that.
In other comments Monday, Powell expressed confidence that major banks were well-capitalized, but had more trepidation about other facets of the financial system, particularly private credit — loans provided by non-bank institutions.
“We’re watching it super carefully,” he said, “looking for things that might lead to a greater contagion or greater losses.”