Jerome Powell heads to a congressional hearing with heated inflation

This week, Powell returns to Capitol Hill for two days of hearings in vastly different circumstances. The Fed has raised interest rates sharply over the past year to counter rising prices, and inflation has fallen for seven consecutive months from a year earlier.

But if anything, Powell’s task has become even more complicated.

Just a month ago, the economy appeared to be cooling and inflation steadily declining. But a deluge of government data since then has painted a very different picture. Consumer spending has remained strong, hiring is still robust and the economy is steadily expanding. And recent government reports show that inflationary pressures are easing at a slower and more choppy pace than previous data had shown.

At a news conference last month, Powell said the long-awaited “disinflation process” — a broad and steady slowdown in inflation — had finally begun. However, he stressed that this is only just beginning and would take longer than many economists had anticipated. Other Fed officials have since repeated that message.

“The momentum of disinflation that we need is far from certain,” Mary Daly, president of the Federal Reserve Bank of San Francisco, said in a speech Saturday. “It is clear that there is still more to be done.”

Daly added that higher interest rates “that are maintained for a longer period of time will likely be necessary.”

Aside from the housing industry, which was hit by higher borrowing costs, most of the economy in general seemed resilient to the Fed’s rate hikes. The central bank has been raising interest rates at the fastest pace since the 1980s. However, most economists believe that Fed policymakers will need to keep raising rates — and keeping them at peaks longer — to bring inflation back to its 2% target, when they forecast in December.

“The economy is running hotter than most policymakers expected a few months ago,” wrote Michael Pearce, senior US economist at Oxford Economics, in a research note.

Pearce expects the Fed to hike interest rates by a quarter point at each of its next three meetings and sees the possibility of further hikes beyond that. Fed rate hikes typically make mortgages, auto loans, credit card rates, and corporate loans more expensive. It’s a trend that can curb spending and inflation, and also threatens to push the economy into recession.

That high-risk dilemma will put Powell in an awkward position during Tuesday and Wednesday’s congressional hearings. He will have to appease Democrats, who fear the Fed’s aggressive rate hikes will cause a painful recession, while reassuring Republicans that the Fed will hike rates high enough to quell inflation.

Signs of continued economic resilience have reduced recession fears. But they have also raised concerns that inflation will be harder to beat.

Fed officials warned last week that interest rates may need to rise higher this year than their previous forecast of around 5.1%. Christopher Waller, a member of the Fed’s seven-member Board of Governors, said he believes the Fed’s interest rate will need to top 5.4% if the economy remains as hot as it appeared in January – when half a million jobs were being added . . That would be almost a point up from its current level of around 4.6%. The risk of a weakening economy with waves of layoffs and corporate bankruptcies would become more likely.

Although Fed officials say they don’t want unemployment to rise significantly, they have warned that hiring needs to fall and some jobs need to be cut to tame inflation, though they frame such views in central bank jargon.

“Getting inflation back to 2% will likely require a period of below-trend growth and some moderation in labor market conditions,” said the Fed’s semi-annual monetary policy report to Congress, released on Friday.

Ever-higher interest rates could draw outspoken opposition from some Democrats, who argue that ongoing inflation is mostly due to global factors, such as ongoing supply shortages and Russia’s war on Ukraine, which the Fed can do little about, and price-gouging corporate giants, reflected in inflated profit margins.

For their part, Republicans in Congress are likely to highlight concerns that the Fed still needs to do more to cool inflation. Jason Furman, a former top economist for President Barack Obama, voiced such concerns in The Wall Street Journal last week. Furman wrote that the Fed should hike rates by a sizeable half-point at its meeting this month, signaling that rates are likely to hit 6% this year.

Many economists expect inflation to fall further to around 3.5% or 4% but could remain stable at those levels. Bringing it down to the Fed’s target level of 2% may require more pain in the form of widespread job losses.

Some Congressional Democrats may be pushing the Fed to raise its inflation target to 3%, arguing that it’s not worth risking a deep recession just to cut inflation by another percentage point. So far, however, Powell has made it clear that he opposes such a change, fearing it would undermine the Fed’s credibility in fighting inflation. Other officials have echoed his views.

Philip Jefferson, a Fed board member, suggested last week that raising the inflation target would “introduce an additional risk” because it could make people fear that the target “could be opportunistically changed in the future.”

Other issues are likely to arise when Powell testifies before the Senate Banking Committee on Tuesday and the House Financial Services Committee on Wednesday. One could be who will replace Lael Brainard, who left her position as Fed Vice Chair for a top White House post.

Senator Robert Menendez, a member of the Banking Committee, has urged the Biden administration to fill the position with a Hispanic. Menendez notes that there has never been a Hispanic member on the Fed’s rate-setting committee.

Democrats are also likely to press Powell on the likely consequences if Congress doesn’t raise the government’s borrowing limit. The limit was reached in January and the Biden administration is using financial maneuvers to avoid defaulting on government bonds. Republicans in Congress are demanding drastic spending cuts in return for raising the debt ceiling.

“There’s only one way forward here, and that’s for Congress to raise the debt ceiling so the United States government can pay all of its obligations as they come due,” Powell said at his press conference last month. “Nobody should assume that the Fed can protect the economy from the consequences of not acting in a timely manner.”

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