Jerome Powell’s Approach: ‘Trust, but Verify’

Federal Reserve Chair Jerome Powell has adopted a cautious stance regarding inflation forecasts and potential interest rate cuts, best summarized by the phrase “Trust, but verify.”

  • On Wednesday, Powell announced that the central bank would maintain current inflation rates for now and hinted at the possibility of one interest rate cut this year.
  • The decision to keep rates steady reflects a prudent approach, as officials provided little indication that they were ready to reduce rates soon, contrasting with recent actions by central banks in Canada and Europe.

Steady Rates Amid Uncertain Forecasts

Most Fed officials anticipate one or two rate cuts in the four remaining meetings of the year, suggesting no cuts before September, even after a recent report indicated a moderation in price pressures. Powell emphasized the need for confidence in sustained inflation reduction, using the word “confidence” 20 times during a press conference.

  • In contrast, the European Central Bank (ECB) and the Bank of Canada cut rates last week, expecting continued inflation declines despite current rates being above targets.
  • ECB President Christine Lagarde expressed increased confidence in the forward-looking path of inflation.
  • The U.S. faces different circumstances, with stronger growth and potentially slower transmission of tight monetary policy to the economy.
  • The U.S. financial system's reliance on bank lending has decreased, and many homeowners benefit from low rates on 30-year fixed-rate mortgages, unlike in other regions.

The Fed's recent focus on monthly inflation readings stems from the challenges of forecasting the economy and inflation over the past three years. In 2021, officials maintained near-zero rates despite rising prices, mistakenly believing the pressures were temporary.

Learning from Past Mistakes

After such missteps, credibility is a concern. Julia Coronado of MacroPolicy Perspectives noted that while the Fed has regained credibility, they are cautious not to take it for granted, setting a higher bar than other central banks.

  • Despite the cautious approach, the Fed risks being too slow to act, potentially leading to a more severe employment downturn.
  • Powell acknowledged this risk but emphasized the plan is not to wait for economic breakdowns before responding.
  • A series of consistently low inflation readings would allow the Fed to avoid this dilemma. However, waiting for more economic weakness could delay rate cuts further.
  • James Bullard, a former St. Louis Fed president, advocated for a more flexible approach, reminiscent of Alan Greenspan's tenure in 1995, where rate cuts were made at irregular intervals.
  • Powell indicated that the decision to cut rates would be significant due to its potential impact on market activity. However, he downplayed the importance of the exact timing of a rate cut, suggesting that the long-term significance of a single 25-basis-point cut would be minimal.

In conclusion, the Fed’s strategy remains cautious, balancing the need for evidence of sustained inflation reduction with the risks of delayed action. This approach reflects lessons learned from past mistakes, aiming to maintain credibility and stability in a complex economic environment.


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