The Fed
US inflation has been going sideways for several months, at a level that is above the Federal Reserve’s target and the country’s comfort zone. In response, the central bank announced yesterday that it would do nothing.
The Federal Open Market Committee’s plan of action — as expressed in the near-term rate projections of its members and in the tone of its chair’s press conference — is exactly as it was in December. Back then, the FOMC had enjoyed an almost uninterrupted six month run of good inflation news, and thought that its policy rate would be 4.6 per cent at the end of this year. It still thinks this, despite notably disappointing inflation reports in January and February. More importantly, Jay Powell’s language has retained its decidedly optimistic flavour:
As labour market tightness has eased and progress on inflation has continued . . . we believe that our policy rate is likely at its peak for this tightening cycle, and that if the economy evolves broadly as expected, it will probably be appropriate to begin dialling back policy restraint at some point this year . . .
Wait wait wait, one wants to interrupt, progress on inflation has not continued. Here is the chart Unhedged used to make this point a week ago, after the February CPI numbers landed:
Here’s what Powell had to say about this:
. . . the January CPI and PCE numbers were quite high. There is reason to think there may be seasonal effects there, but nonetheless we don’t want to be completely dismissive of it. The February number was high, higher than our expectations, but we currently [expect] well below 30 basis points (0.3 per cent month-over-month) core PCE, which is not terribly high. So it’s not like the January number. I take the two of them together, and I think they haven’t really changed the overall story, which is that of inflation moving down gradually on a sometimes bumpy road towards 2 per cent.
The FOMC thinks that two months of bad data, even accompanied by remarkably resilient economic growth and some extra accommodation provided by exuberant markets, is not enough for it to change its stance. It may be right. It could be that seasonal factors, and the fact that falling market rents refuse to appear in housing services prices, mitigate the badness of the numbers. And maybe two months just isn’t all that much time. But make no mistake: the Fed has decided that the disinflation story is fully intact and their policy posture, solidly tilted towards rate cuts in the near future, is unchanged.
This plain fact might be obscured by changes in the committee’s longer-term economic projections. Since December, it has made non-trivial increases in its view of the appropriate policy rate for 2025 (3.6 per cent to 3.9 per cent) and 2026 (2.9 per cent to 3.1 per cent), and even nudged its view of the long-term neutral rate a tiny bit (2.5 per cent to 2.6 per cent). Estimates for economic growth in the out years were nudged up, too. The “dot plot” of individual members’ rate policy views showed a decided migration upwards.
This is hawkishness, surely? No, it is not. Remember that the committee members’ ability to forecast the behaviour of the economy more than a quarter or two in the future is no better than yours or mine. We can’t do it, and neither can they. They have decisions to make about what to do this year, and they have been clear where they stand on those decisions. They plan to cut. Their longer-term projections, by contrast, are not plans — they are expressions of an attitude, a commitment to professional seriousness. Yes, the projections say, we see the bad data. But it does not change our mind.