Federal Reserve will tighten rates to above neutral if needed, Jerome Powell says

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If the Federal Reserve needs to tighten its policy rate to above neutral — that is, an interest rate that neither hinders nor fuels economic growth — to a more restrictive stance, “we will do that,” Federal Reserve Chair Jerome Powell said in a speech at the National Association for Business Economics annual conference, according to his prepared remarks.

The inflation outlook “has deteriorated significantly this year,” he said. After saying for much of last year that inflationary pressures would be “transitory”, how could economic forecasters have been so far off? Powell asked.

Soon after the remarks were released, the three major U.S. stock averages dipped into the red, with the Nasdaq dropping 1.1%, the Dow down 0.9%, and the S&P 500 off 0.5%.

“In my view, an important part of the explanation is that forecasters widely underestimated the severity and persistence of supply-side frictions, which, when combined with strong demand, especially for durable goods, produced surprisingly high inflation,” Powell said.

He is relatively optimistic that the central bankers will be able to engineer a so-called soft landing, in which the rate is raised high enough to keep the economy from overheating but not so much that it triggers a recession. While some have said “history stacks the odds against achieving a soft landing,” there are three episodes — in 1965, 1984, and 1994 — where the Fed significantly raised rates without sparing a recession, he said. Still, it won’t be an easy task.

“I hasten to add that no one expects that bringing about a soft landing will be straightforward in the current context — very little is straightforward in the current context,” Powell said.

His main message in his speech is that the Fed will adjust policy as the economic outlook evolves “to ensure a return to price stability with a strong job market,” he said.

1:14 PM ET: Powell also said the Fed would implement a 50-basis-point hike if appropriate, however, the central bank doesn’t have test that would trigger a 50bps increase.

1:29 PM ET: Note that the probability of a 50bps rate hike at the Fed’s May meeting has increased to 59.4% from 43.9% on March 18, according to the CME FedWatch Tool. The fed funds rate target range is now 0.25-0.50%, after the Fed raised its policy rate by 25bps last week.

Updated at 1:11 PM ET: The rising Inflation is stemming from the supply-demand situation, Powell repeated during the Q&A section of the speech. “Monetary quantities” aren’t an important part of inflation “at this time,” he said.

Previously (March 16), Most Fed officials predict at least 7 rate hikes in 2022

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