The Federal Reserve is raising rates and Jerome Powell is reminding everyone. Speaking to an economic conference in Boston, the Fed chief said gradual rate hikes are needed to hold down the risk of inflation. Pointing to the labor market as a possible source of inflation, Powell noted anecdotal evidence, including assessments in the Fed's Beige Book, that quality labor is in short supply. The policy response, he said, is one of balance and moderation, that moving too fast in raising rates would raise the risk of shortening the economic expansion and that moving too slowly would raise the risk of inflation. He repeated that the outlook for the labor market is strong and that inflation should remain low and contained, not rising much above 2 percent.
Powell's speech was focused on the Phillips curve which states that slack in the labor market creates downward pressure on inflation and that tightness in the labor market creates upward pressure. But he noted that this relationship has unexpectedly broken down since the mid-1990s. Though the reasons for the breakdown are unclear he did cite, as he has in the past, that improvement in monetary policy, and its effect at anchoring inflation expectations, is a possible factor limiting fluctuations in inflation.
In questions and answers, Powell "stayed in his lane" as he is fond of saying, declining to critique fiscal policy or trade policy. But he did repeat that fiscal policy has not been on a sustainable path for quite a long time and he acknowledged that rising government debt reduces the flexibility of fiscal policy to stimulate demand during a downturn. On trade, he repeated that tariffs have the potential to increase inflation pressures though there are as yet no indications of this apparent in the economic data.
Asked about the risk of asset bubbles, Powell said banks are taking less risk and households are saving more and that financial instability is limited. Addressing the global economy, the Fed chair said growth in advanced economies appears to have slowed this year and that emerging economies are stable with trouble limited to just a handful of countries. In a question on what policy tools the Fed would prefer to use to address a possible jump in inflation, Powell said raising the federal funds rate, in the Fed's long established tradition, would be by far the preferred tool. He said firmly that the Fed "wouldn't sell assets" to address inflation, that they would stick to their balance sheet reduction program "because it's working so well".