Federal Reserve Chair Jerome Powell offered his latest thoughts on the economy and monetary policy during the December FOMC press conference, explaining the decision to leave interest rates unchanged and how the Fed will assess conditions in the future to determine when rate cuts may be appropriate.
Key Takeaways from Powell’s Comments
Several key themes emerged from Powell’s press conference remarks:
- Rates likely won’t go much higher from here – Powell stated, “It’s not likely we will hike further,” indicating additional rate hikes beyond the current 5.25-5.50% range are unlikely.
- Rate cuts being discussed – “The question of when it will be appropriate to cut rates is coming into view,” Powell noted. Policymakers are now considering when to start lowering rates.
- Growth moderating, inflation progress being made – Data suggests economic expansion has slowed from Q3 levels while inflation continues moving toward the Fed’s 2% target.
- Significant uncertainties remain – Powell emphasized achieving the Fed’s goals is still uncertain, and they are moving carefully in assessing the next moves.
- Avoid keeping rates high too long – Powell stressed the importance of not making the mistake of restrictive monetary policy.
Assessing the Need for Rate Cuts
A key focus of Powell’s remarks centered around how the Fed will evaluate when to pivot to cutting interest rates from the current elevated levels.
- Threshold vs meeting-by-meeting approach – While policymakers have begun considering when rate cuts may be suitable, Powell stated they have not yet determined whether to follow specific economic thresholds or assess conditions meeting-by-meeting.
- Monitoring demand signals – Demand trends in the economy, especially services spending beyond housing, will be an important factor in decisions, Powell noted.
- Don’t want to be late – Powell emphasized the Fed does not want to keep rates high too long, risking an economic downturn. Officials appear sensitive to moving in time to cushion growth rather than respond late.
- Still uncertainty ahead – While recent trends have been encouraging, Powell made clear achieving the Fed’s goals is not guaranteed, and significant uncertainties remain in the outlook.
The press conference provided useful colour around the Fed’s reaction function but avoided concrete commitments on the size and timing of coming rate cuts. Officials are debating an eventual policy pivot while staying flexible based on emerging economic data.
Growth Outlook, Inflation and Policy Assessment
Beyond guidance on rate cuts, Powell offered useful insights into how the Fed interprets recent economic developments at home and globally.
Moderating Growth, Resilient Labor Market
- Q3 GDP revised higher, consumer spending mixed – Powell highlighted third quarter GDP growth was stronger than expected while spending has been uneven in recent months.
- Job market holding up so far – Employment gains have eased back but remain solid, according to Powell. The labour market resilience has exceeded many forecasts.
Encouraging Progress on Inflation
- Core inflation heading lower – Powell emphasized positive momentum in core inflation, moving back toward the 2% target. The Fed’s estimation has made real progress.
- Global supply chain improvement, commodity price relief – Easing bottlenecks and inflation pressures globally likely assisting US inflation.
- Wage growth moderation – A welcome development for the Fed has been slowing wage increases, which could dampen services inflation.
Powell’s remarks cast recent inflation favourably while stopping short of declaring victory. He appears to see mounting evidence of demand-pull pressures abating but noted lingering uncertainty in the outlook.
Assessing Appropriate Policy Stance
In determining whether additional tightening or loosening is needed, Powell cited his team will take into account a range of factors:
- Employment and inflation – Assess progress toward maximum employment and 2% inflation goals.
- Global developments – Monitor lagged impact of Fed tightening and shocks like China reopening.
- Financial conditions – Gauge if tighter credit and weaker markets sufficiently cut growth.
- Time lags – Recognize still uncertain lags in the transmission of policy changes.
The press conference provided useful clarity on the considerations driving Fed decisions but avoided concrete guideposts on where policy is heading in coming meetings.
Market Reaction: US Dollar Weakens, Stocks Rally
Financial markets welcomed Powell’s remarks, which investors interpreted as affirming an approaching end to this most aggressive Fed tightening campaign in decades.
US Dollar Under Pressure
The US Dollar sank over 0.5% immediately, extending pullbacks from multi-year highs in recent months. Signs of peaking hawkishness are weighing on the Greenback’s haven appeal. If the Fed pauses soon and embarks on rate cuts later in 2023, downward pressure could persist for the Dollar heading into next year.
Risk Assets Catch Bid
In contrast to currency moves, US stocks rallied following the Fed decision and Powell press conference. The S&P 500 jumped over 1% to build on recent equity market strength.
Risk-sensitive assets like corporate bonds and emerging markets also attracted strong buyer interest. The growth outlook moderation, but the optimistic Fed tone supported a “risk-on” tilt.
The Bottom Line
While holding fire on further rate hikes for now, Powell made clear additional tightening cannot be ruled out. But his remarks cast the bar for higher rates as extremely high absent a dramatic rebound in inflation or blowout growth. Barring such shocks, market expectations for 5.25-5.50% representing peak rates in this cycle seem reasonable.
