Jerome Powell (almost) declares victory over inflation

For economists and investors accustomed to staring at charts, the jagged peaks of the Teton mountains possess more than a passing resemblance to financial trend lines. They also form the backdrop to one of the year’s most keenly awaited central-bank speeches: annual reflections by the chair of the Federal Reserve at a conference hall in Jackson Hole, located in the valley below the Teton range. On August 23rd Jerome Powell did not disappoint. He made clear that having raised interest rates as sharply as any of the slopes in the distance, the central bank was now ready to begin the descent.

Mr Powell’s speech came closer than any of his previous remarks to a declaration of victory over the inflationary surge in the wake of the covid-19 pandemic, even if he could not bring himself to put it quite so bluntly. Inflation is “on what increasingly appears to be a sustainable path to our 2% objective,” he said. But keeping prices stable—defined by the Fed as that magical level of a 2% annual increase—is just one part of its dual mandate. The other part is maximum employment, and this is where Mr Powell said his worries now lay. “The upside risks to inflation have diminished. And the downside risks to employment have increased,” he said.

For a central bank more concerned about the outlook for the job market than inflation, the prescription is easy enough: start loosening monetary policy. “The direction of travel is clear,” said Mr Powell. What is less clear is the pace of travel. Owing to its aggressive course of tightening of the past two years, the Fed will begin cutting from a Teton-like altitude, at least relative to recent history, with short-term borrowing rates currently set between 5.25% and 5.5%.

According to bond-market pricing, investors expect the Fed to make a small quarter-point reduction at its next meeting in September, followed by about two more percentage points of cuts over the coming year. None of that is etched in stone. Some saw Mr Powell’s doveish tone as opening the door to a bigger half-point cut next month. Mr Powell was, as ever, keen to leave the Fed flexibility, saying that its actions would depend on incoming data and the balance of risks.

The critical question is just how worried Mr Powell truly is about the labour market. Trying to get a good read on employment has become difficult because of a mixture of high immigration, which has increased the pool of potential workers, and the gradual post-covid normalisation of the economy. Mr Powell’s comments reflected some of this confusion. He noted that the labour market had cooled substantially, with the unemployment rate rising to 4.3%, up nearly a percentage point from its low in early 2023. “We do not seek or welcome further cooling in labour-market conditions,” he remarked. At the same time, he said that this increase was a result not of lay-offs but of an increasing supply of workers. In other words, he does not appear to see a recession as an imminent threat.

Mr Powell also used his speech as a partial rebuttal of those who criticise the Fed for being too slow to raise interest rates in 2022. He reminded the audience of central bankers and eminent economists from around the world just how unusual economic conditions had been during the pandemic, and how most had assumed that surging prices would be transitory, fading away as supply chains healed and stimulus-driven demand slowed. “The good ship Transitory was a crowded one,” he said. “I think I see some shipmates out there today,” he added to much laughter, before explaining how the Fed had moved with alacrity when it became evident that inflation was proving to be persistent.

In the morning before Mr Powell’s remarks, the Tetons were shrouded in smoke from a raging wildfire. By the end of his speech much of the smoke had lifted—a hopeful metaphor for the Fed as it finishes dousing the embers of inflation. But the dissipation of the smoke in fact just reflected a shift in the direction of the wind, a reminder that, so long as the labour market is weakening, it is too soon for Mr Powell to declare a full victory. ■