Powell hints at faster pace of rate rises

Jay Powell gave a markedly bullish assessment of the US economic outlook in his first congressional testimony as Federal Reserve chairman, triggering speculation that he could preside over a quicker pace of interest rate increases as the economy accelerates.

Addressing the house financial services committee, Mr Powell said the economy had been stronger this year than he expected in December, as he vowed to forge ahead with gradual increases in interest rates to avoid an "overheated economy".

Mr Powell said he and his colleagues would take the firmer-than-expected data into account when they draw up their interest rate forecasts next month, prompting a rise in the dollar as some analysts increased their expectations that the Federal Open Market Committee (FOMC) will push through four rate rises in 2018.

“My personal outlook for the economy has strengthened since December,” Mr Powell said. “In gauging the appropriate path for monetary policy over the next few years, the FOMC will continue to strike a balance between avoiding an overheated economy and bringing PCE [personal consumption expenditures] price inflation to 2 per cent on a sustained basis.”

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Mr Powell’s upbeat tone pushed the dollar up against other G10 currencies while US treasuries fell, lifting the 10-year treasury yield above the 2.9 per cent mark.

Optimism

The S&P 500 stock market index dipped 0.4 per cent by midday in New York, with investors ratcheting up the market-implied odds of four interest rate increases this year to 30 per cent from 10 per cent.

Consumer confidence figures published separately showed optimism about the labour market and wider economy, pushing sentiment to its highest level since 2000.

The economy grew at a 3 per cent annual pace over the second half of last year, and it is about to receive additional stimulus from tax cuts and higher federal spending approved by Congress in recent months.

This presents a delicate balancing act for the new Fed chairman as he tries to prevent an economy with unemployment at its lowest rate since the early 2000s from overheating even as inflation hovers below the Fed’s target.

The Fed is expected to lift rates again next month, having held them in January at the final meeting presided over by Mr Powell's predecessor Janet Yellen.

In December the Fed predicted three increases in short-term interest rates in 2018, alongside continued reductions in the size of the central bank’s multi-trillion dollar balance sheet.

Some analysts think the Fed is increasingly likely to lift rates four times this year as unemployment continues to drop and inflation edges back to 2 per cent.

March meeting

Asked by Carolyn Maloney, a Democratic Congresswoman from New York, about the likely number of rate increases this year, Mr Powell said his confidence about inflation had risen since the Fed's December forecasts. But he declined to prejudge the Fed's March meeting.

Among the new economic drivers were stimulative fiscal policy and firm demand for US exports, said Mr Powell. “While many factors shape the economic outlook, some of the head winds the US economy faced in previous years have turned into tailwinds.”

James Knightley, chief international economist at ING, said: "His hints at the upside potential for inflation and the increasing positives for growth suggest the risks are skewed towards a more aggressive monetary policy response."

Fed officials remain divided over how quickly to move rates given inflation’s stubborn refusal to return to the central bank’s 2 per cent target. Inflation was 1.5 per cent in December, according to the Fed’s preferred measurement. But Mr Powell said he expected it to move higher this year and stabilise around the target over the medium term.

Mr Powell also said that with executives in high spirits and sales growth strong, business investment was likely to continue to grow and should lift productivity growth over time.

Limited

Mr Powell’s first days as Fed chairman were accompanied by violent moves on global stock markets, but his testimony on Tuesday made it clear that he sees the episode’s economic implications as limited. He said financial conditions had reversed some of the easing seen last year, but they remained “accommodative” – suggesting they were supporting growth.

“At this point we do not see these developments as weighing heavily on the outlook for economic activity, the labour market and inflation. Indeed, the economic outlook remains strong,” Mr Powell said.

He added that despite high asset prices, the financial stability risks were at most modest. – Copyright The Financial Times Limited 2018