Jay Powell warns Fed prepared to switch back to bigger interest rate rises

Jay Powell has warned that the Federal Reserve is prepared to switch back to bigger interest rate rises if the US economy continues to grow too quickly, in remarks prepared for a high-stakes congressional appearance on Tuesday.

Mr Powell’s testimony marks the Fed chair’s first public intervention since data releases showed the central bank is still struggling to cool the US economy despite a year-long campaign of monetary tightening.

Describing recent economic data as “stronger than expected”, Mr Powell will tell the Senate Banking Committee that “the ultimate level of interest rates is likely to be higher than previously anticipated”.

“If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes,” he will add.

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The dollar extended gains and US Treasury yields climbed after Mr Powell’s remarks were released.

Traders increased their bets on a half percentage point rise in interest rates at the Fed’s next meeting later this month, but markets still viewed a quarter per cent increase as the more likely outcome.

[ OECD inflation falls again but rate of decline slows ]

Mr Powell’s remarks come after the US central bank spent months reducing the size of rate rises from a peak of 0.75 percentage points, which was sustained from June to November. In December, it scaled back to a half-point rate rise and then shifted down again in February to the more traditional quarter-point increase.

The Fed’s main interest rate is at a target range between 4.5 per cent and 4.75 per cent, compared with near zero at this time last year. In December, Fed officials projected interest rates would reach a peak of 5.1 per cent this year.

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But the Fed chair’s comments are the latest indication that he is open to ratcheting up the pace of rate increases in the face of unexpectedly persistent price pressures.

Two critical data releases due before the next meeting will help to inform the Fed’s decision: the next monthly jobs report on Friday and the consumer price index report for February, which will be published next week.

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Investors and economists will be watching to see whether the rebound in the labour market and consumer demand in January was sustained last month. Mr Powell said the hot data “likely reflects the unseasonably warm weather”.

Politically, Mr Powell is likely to face renewed pressure from Republicans to be aggressive and to not fall behind the curve in tackling inflation. But Democrats have been growing increasingly anxious that the Fed will go too far in tightening monetary policy, triggering a recession that could undermine many of the labour market gains achieved during the recovery out of the pandemic.

On Tuesday, Mr Powell said that to get inflation back down to the Fed’s 2 per cent target, there would “very likely” need to be “some softening in labour market conditions”, suggesting job losses ahead.

[ Grocery price inflation reaches record high of 16%, data shows ]

The US currency was 0.6 per cent higher on the day against the euro after his comments were released. This compared with a 0.4 per cent gain previously. The yield on interest-rate sensitive two-year Treasuries climbed 0.07 percentage points to 4.964 per cent.

Mr Powell is also expected to face questions on banking regulation, with Democrats pressing the Fed to tighten capital standards for the largest institutions, and Republicans pleading for a looser treatment. Michael Barr, the Fed’s vice-chair for supervision, is leading a review of capital rules. – Copyright The Financial Times Limited 2023