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Fed Powell acknowledges fears of higher inflation but opposes policy change

Federal Reserve chairman Jerome Powell said recent inflation was uncomfortably above the central bank’s target level, closing two days of testimony in which he was a little less confident about the economic outlook – and the Fed’s policy stance – sounded like the beginning of this year.

Broader price pressures or a weak workforce recovery could lead the Fed to conclude that it needs to reverse monetary policy put in place during the pandemic faster than officials expected a few months ago.

“This is a shock going through the system associated with the reopening of the economy that has driven inflation well above 2%. And of course we’re not comfortable with it, ”Powell told the Senate Banking Committee on Thursday.

Mr Powell said pandemic bottlenecks and other delivery restrictions on a small group of goods and services resulted in rapid price increases. He said it would be a mistake to respond to inflation resulting from one-time price increases for certain services such as airfare and hotel prices or goods such as new and used cars due to the reopening of the economy.

Earlier this year, Mr Powell said he expected inflation to prove temporary as those one-off hikes would not continue. But Mr Powell said Thursday that while the central bank still expects a reversal in rising prices related to congestion, the Fed was watching to see if other goods and services where price growth has been flat or modest could accelerate if it did the economy heats up.

“We identified half a dozen things” that “look a lot like temporary factors that will wear off over time. What we don’t know is that other things are coming to replace them? ”Said Mr. Powell. “We won’t have to wait a long time, I don’t think that our basic understanding is correct here.”

U.S. consumer prices continued to accelerate at the fastest pace in 13 years in June as the pandemic recovery gained momentum. The Department of Labor’s consumer price index rose 5.4% year-over-year in June. Excluding the volatile food and energy categories, prices rose 4.5% year-on-year, the strongest in 30 years.

The US inflation rate recently hit a 13-year high, sparking a debate over whether the country is entering a similar inflation period to the 1970s. WSJ’s Jon Hilsenrath examines what consumers can expect next.

“This particular inflation is simply unique in history. We don’t have another example of the last time we reopened a $ 20 trillion economy with a lot of fiscal and monetary support, ”he said. “We are humble about what we understand.”

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Officials at their July 27-28 meeting will accelerate discussions on how and when to gradually reduce their $ 120 billion-a-month purchases in government bonds and mortgages. Since Mr Powell has said that the Fed will give full warnings as to when it will begin this process, it seems unlikely that it will begin anytime soon.

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Mr Powell pointed out that the Fed is in no hurry to adjust its policies now, but that by the end of the year it would have a better understanding of how the reopening is progressing. Economists want to see if more Americans return to work in the coming months, even if the kids return to school in the fall and the expanded unemployment benefits expire in early September.

The proportion of Americans working or looking for work has fallen sharply during the pandemic and remains several percentage points below pre-pandemic levels. The sluggish return of workers has upset the Fed’s best guesses as to what full employment could mean. When “the labor supply is lower, you will reach full employment sooner,” said Powell.

On Wednesday, Mr Powell said he expected and hoped that the number of job seekers would increase significantly in the coming months.

Many economists believe that tighter labor markets would push the Fed to an earlier rate hike, although Powell said it could take years to understand new trends in labor force participation. “At this point, there is no need for Powell to scare the markets by highlighting a risk that is unquantifiable and may never materialize,” said Ian Shepherdson, chief economist at Pantheon Macroeconomics.

Still, in its semi-annual monetary policy report released last week, the Fed pointed to the risk that the pandemic could have transformed the labor market in such a way that “the characteristics of maximum employment may well be different from early 2020”.

The last half of the year will also give the Fed more time to see if inflation is heating up in other parts of the economy, such as housing costs or wages, which could keep overall price pressures even after the Fed’s 2% target on pandemic bottlenecks decrease.

“The challenge we face is responding to this inflation that is greater than we expected – or that anyone expected,” Powell said. “And if it is only temporary, it would not be appropriate to react to it. But as it gets longer and longer, we have to reassess the risks. “

The Fed has kept interest rates near zero since the coronavirus pandemic hit the U.S. economy in March 2020. The central bank has announced that it will keep rates there until it is confident that inflation will be “moderately” above the Fed’s 2% target and that the market has recovered or has returned to what it calls ” maximum employment ”.

Mr Powell said current inflation levels are well above the Fed’s target. “This is nowhere near ‘moderately over 2%’ … and we understand that,” he said.

Write to Nick Timiraos and [email protected]

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