[Baltimore Sun] Fed turns focus toward bolstering economy with obstacles ahead
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The Federal Reserve is moving onto its next mission after the first rate cut since ratcheting them up to tame the rate of price increases marked a symbolic end to its fight with inflation and the beginning of a new phase to steer the economy into a soft landing.
But questions remain that the Fed cannot quite answer yet, like how quickly and how much rates will go down, and what the right range to leave them at is. There is also the lingering concern that inflation could head in the wrong direction, bolstered by spending from the lower rates, creating a potential trap to avoid moving forward.
The Federal Open Market Committee got off to an aggressive start with the first cut in more than four years, opting for a 50-basis-point cut, as it tries to keep a cooling jobs market from freezing over and help the economy continue to grow.
Projections released along with the FOMC’s policy statement showed governors are also expecting to make two more cuts, each at 25 basis points, before the end of the year. That is a much more rapid pace than a few months ago when the board was more inflation-focused.
Fed Chair Jerome Powell said the committee is still going to lean on the data moving forward, with several more monthly releases on inflation, the employment situation and consumer spending to be released before the next rate cut decision in November.
“We’re going to take it meeting by meeting,” Powell said at his Wednesday press conference. “We made a good, strong start to this, and that is frankly a sign of our confidence — confidence that inflation is coming down.”
There were questions after the aggressive half-percentage-point cut if that was an acknowledgment the Fed was behind on its timeline to start reducing rates. Powell said the cut was not a signal that they waited too long, but rather a commitment to avoid falling behind.
The Fed has faced criticism before when it thought rising prices were a temporary blip as the world restarted from the pandemic and would go away with time, only to be proven wrong with sticky inflation that required a record-setting pace of increases to rates.
“The committee has growing confidence that with appropriate policy recalibration, labor market strength can be maintained,” said Gregory Daco, chief economist at EY. “Powell insisted on policy optionality with the Fed being in a better strategic position to respond to potential risks to the outlook. He stressed the Fed is not on a preset course following what we perceived to be a catch-up rate cut.”
Inflation has dropped consistently over the last year to 2.5%, a marked improvement from the high of 9.1% it reached in mid-2022. The Fed has nearly met its target of 2% inflation on a year-over-year basis and is projecting more confidence than ever that it can reach that goal without sending the economy into a tailspin, which would achieve the notoriously difficult soft landing.
Over time, lower interest rates will also save consumers and businesses money as it becomes cheaper to borrow for loans on things like cars and credit cards, which could help bolster economic activity to avoid a recession.
Keeping the labor market intact is one of the chief challenges for the Fed to navigate as it eases interest rates to a more neutral level where they do not spur or slow economic activity.
Signals that the employment situation in the U.S. is declining have grown more prominent in recent months. Unemployment rose to 4.2% last month compared to 3.7% in January and the rate at which businesses have added jobs has also declined. Labor data is still strong compared to historical averages but is significantly weaker than it was during the peak of the post-pandemic resurgence of the economy.
Policymakers’ projections showed they are predicting unemployment to continue to climb modestly through the end of the year to 4.4% and stay there by the end of 2025. That is an increase from 4% this year and 4.2% for 2025.
Powell said on Wednesday that the labor market is no longer causing inflationary pressure through a labor shortage that caused wages to rise rapidly and was passed on to consumers in the form of higher prices. The Fed is now turning its focus to the maximum employment side of its dual mandate of overseeing the economy.
Economists also noted that Powell was very clear about further weakening in the labor market being an unwelcome development.
The other big challenge facing the central bank is determining what its benchmark interest rate needs to be to have a neutral effect on the economy, meaning that it would neither spur growth nor weaken activity. There is some debate among economists as to exactly what that range is, and Powell said governors are also unsure but noted that it is higher than it was prior to the pandemic.
“As the Fed embarks on its easing cycle, two old demons continue to haunt it. First, it is essential for policymakers to adopt a robust forward-looking framework and abandon data dependency. Unfortunately, that’s not the case so far,” Daco said. “Second, policymakers must indicate the destination of travel—the short-term neutral policy rate—and signal how long the journey to a neutral policy stance is likely to take. This doesn’t seem to be part of the Fed’s communication strategy.”
Content from The National Desk is provided by Sinclair, the parent company of FOX45 News.
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