Federal Reserve's Stance on Interest Rates

By Ann Saphir and Howard Schneider

DALLAS (Reuters) – Ongoing economic growth, a solid job market, and inflation remaining above the 2% target indicate that the Federal Reserve does not need to rush to lower interest rates, stated Fed Chair Jerome Powell on Thursday. His comments suggest borrowing costs may stay higher for an extended period for both households and businesses.

Powell affirmed that he and fellow policymakers view inflation as "on a sustainable path to 2%" allowing the U.S. central bank to gradually adjust monetary policy toward a more neutral stance, which is not aimed at slowing economic growth.

However, uncertainties linger regarding what that neutral rate entails in the current context and the pace at which the Fed may try to attain it, particularly in light of the economic strength and the potential impacts of the incoming Trump administration's policies, such as higher tariffs and reduced immigrant labor.

Powell largely sidestepped questions concerning how new tariffs or fewer workers might affect the path of inflation, stating, "We can do the arithmetic. If there are fewer workers, there'll be less work done," while expressing a desire to avoid political discussions.

As of now, Powell noted that the economy shows no distress signals that would trigger an acceleration in rate cuts. He remarked, "The strength we are currently seeing in the economy gives us the ability to approach our decisions carefully."

Fed officials and investors are considering how U.S. economic resilience and the uncertain trajectory under President-elect Donald Trump’s administration, especially regarding tax cuts and tariffs, may influence inflation and growth.

After Powell's remarks, yields on shorter-term Treasury bonds rose, and traders revised their expectations on how much the Fed will cut rates. The central bank recently lowered its benchmark overnight rate to a 4.5% to 4.75% range. Previously, there had been forecasts for rates dropping to as low as 2.9% by 2026, though investors now anticipate a rate as high as 3.9%.

JP Morgan's chief U.S. economist Michael Feroli wrote, "We still think the FOMC is likely to cut in December but think today’s speech opens the door to dialing down the pace of easing as soon as January."

NO OBVIOUS ANSWER

During a Q&A session, Powell expressed that while Fed staff may begin to analyze the impact of tariffs and potential Trump policies, it will take time to understand the effects, which will only become clear upon the approval of new laws. "The answer is not obvious until we see the actual policies," he added, indicating that speculation is premature.

He highlighted that the current economic conditions differ significantly from those when Trump took office eight years ago, noting lower inflation, growth, and productivity at that time. For instance, a recent surge in immigration contributed to a growing economy amid a post-pandemic labor shortage.

Following last week’s elections, which may have hinged on voter perceptions of the economy, Powell remarked that the situation is actually "remarkably good."

Strengths in the economy include a low 4.1% unemployment rate, a solid 2.5% annual growth rate exceeding Fed estimates for potential growth, and increased consumer spending boosted by rising disposable income alongside business investment.

However, key inflation measures remain above target. While the personal consumption expenditures price index for October has not yet been released, Powell indicated that recent data suggests the core PCE, excluding food and energy, rose at a 2.8% rate, indicating stagnant progress on inflation for four consecutive months.

The Fed considers the headline PCE reading to shape its 2% inflation target; Powell estimated this measure to be around 2.3% for October, while the core measure serves as a predictor for underlying inflation.

Traders still predict the Fed will cut interest rates by another quarter point at the upcoming Dec. 17-18 meeting, and Powell expressed confidence in continued disinflation. However, the central bank remains vigilant, monitoring inflation closely. Major inflation indicators have returned to rates consistent with their goals, but there is still caution since inflation hasn't yet fully aligned with the 2% long-term goal.