Powell says Fed has room to cut, may have kept policy too tight

Federal Reserve Chairman Jerome Powell suggested that the central bank has room to ease as the tie between the inflation and jobless rates has broken down.

“The relationship between unemployment and inflation became weak” about twenty years ago, Powell told the Senate Banking Committee Thursday. “It’s become weaker and weaker and weaker.”

The Fed chief stressed at his second day of congressional testimony that the U.S. economy is “in a very good place.” He said the central bank wants “to use our tools to keep it there,” and offset weakness stemming from a global slump in manufacturing and business confidence linked to trade tensions.

“He sent a pretty straightforward signal that they intend to lower interest rates,’’ said Ward McCarthy, chief financial economist at Jefferies LLC.

Neutral Rate

Powell told Senators that the so-called “neutral rate,” or policy rate that keeps the economy on an even keel, is lower than past estimates have put it -- meaning monetary policy has been too restrictive.

“We’re learning that interest rates -- that the neutral interest rate -- is lower than we had thought and I think we’re learning that the natural rate of unemployment is lower than we thought,” he said. “So monetary policy hasn’t been as accommodative as we had thought.”

Federal Reserve officials in fact marked down their estimate of the longer-run policy rate to 2.5 per cent in June, from 2.8 per cent in March.

Investors fully expect a quarter-point cut at the Fed’s July 30-31 gathering, according to pricing in interest-rate futures, though odds were dialed back a bit after a stronger-than-expected U.S. inflation report earlier on Thursday.

At the hearing, Powell received bipartisan support for his independence at a time when the Trump administration is openly attacking the policies of the Federal Reserve. Powell deflected a question about whether this complicated policy making.

Trump discussed firing Powell in late 2018 and asked White House lawyers earlier this year to explore options for removing him as Fed chairman, Bloomberg has reported. When answering a similar question Wednesday during his testimony before the House Financial Services Committee, Powell said he wouldn’t leave even if Trump tries to fire him.

--With assistance from Christopher Condon, Katia Dmitrieva and Ryan Haar.