Federal Reserve Chairman Jerome Powell expects a short-lived inflation uptick, but says the Fed is still a long way from its inflation and employment goals.
In a unanimous vote, the Federal Reserve’s rate-setting body kept its target interest rate in the 0% to 0.25% range at its April meeting, citing the “tremendous human and economic hardship across the United States and around the world” that the COVID-19 pandemic is causing.
This means credit card interest rates, which are typically tied to the target Fed funds rate, are likely to continue at current levels for a while.
The economic situation is improving with help from the vaccination rollouts and the Fed’s monetary policy support. The job market has improved, and although the service sector industries most impacted by the pandemic remain weak, they are improving, too. The Fed stated that though inflation is on the upswing, this effect is “transitory,” or will be short-lived.
What’s next for the economy will depend “significantly on the course of the virus, including progress on vaccinations,” with risks to the outlook remaining. The Fed will also continue with its ongoing bond monthly purchases of $80 billion in Treasury securities and $40 billion in agency mortgage-backed securities until “substantial progress” is made toward the central bank’s goals.
With the Fed aiming for maximum employment as well as for inflation to run moderately above 2% for a while (so that it averages 2% in the long-term, considering that it has been undershooting this target for a while), it will continue with its accommodative stance until these goals are in sight, based on data.
See related: Credit cards keeping COVID-hit consumers afloat
Fed anticipates inflation uptick will be short-lived
In a related press conference, Fed Chair Jerome Powell noted that economic indicators have strengthened since the beginning of the year. The housing sector is doing well, business investment has picked up and spending at bars and restaurants has also improved. He expects that continued vaccinations should allow for a “return to normal” later this year.
He anticipates that as the economic reopening proceeds, there will be an upward pressure on prices. However, “these will be transitory effects,” and the Fed will maintain its accommodative stance since such a temporary hike in inflation will not meet its standard for inflation.
“The economy is a long way from our goals,” Powell advised, with the path of the virus having an impact on the Fed’s ability to achieve its goals, which also include maximum employment.
He doesn’t expect inflation to move up in a persistent manner, and to influence expectations for inflation, while there is still “substantial slack” in the economy.
As to what makes the Fed think that the inflation effect will be transitory this time, and different from previous periods in the past that fueled high inflation, Powell noted that the worldwide pandemic is an unprecedented event. In the current situation, there is a “base effect” considering an upward movement in prices from very low year-ago readings.
Also, there is a “bottleneck effect” with the supply chain for certain goods facing a mismatch in supply and demand. He expects this to be resolved as businesses adapt. While he is more confident that the base effects will disappear in a few months, it’s harder to say how the bottleneck effects will play out. The Fed will be prepared to use its tools if inflation were to move materially above 2% in a persistent way, contrary to expectations.
Substitution of technology could impact some jobs
On the employment front, Powell noted that the economy has not experienced the level of scarring from people being out of work for a long time that the Fed was concerned about a year ago. Even then, it’s going to be a different economy with service industries looking to use more technology, which will make it difficult for some workers to get back in the labor force. This means the Fed still has labor market concerns.
There’s also a tension in the labor market between the high unemployment rate and firms not being able to find workers. Some factors behind this disconnect include people who are staying home to take care of children since schools have not reopened; workers who don’t have the right skills or who are not located in the right geographical places; fears of COVID; and people who have retired from the labor force, and a lack of clarity about their re-entering it. Another factor influencing the labor situation is unemployment insurance, which will run out in September.
Housing market stable
Powell is not concerned about the housing market, which the Fed carefully monitors. Households were in good shape before the pandemic, and lenders are not engaged in the sort of lax no-doc or low-doc lending that prevailed during the 2000s housing bubble.
Thus, the Fed is not concerned about housing market stability or unsustainable prices. And while the stock market is a bit “frothy,” this has to do more with the economic reopening than with the Fed’s accommodative policy.
About China’s introduction of a government digital currency and whether the Fed will come out with its own soon, Powell noted, “We feel an obligation to understand the technology and all of the policy issues very well.”
The U.S. dollar is the world’s “reserve currency” and he is not concerned about China taking the lead with digital currency. The U.S leadership has come about as a result of its good laws and democratic institutions, so it’s “more important to get it right than to do it first.”