Financial-market participants have continued to expect the Federal Reserve to begin raising interest rates this month, despite Russia’s invasion of Ukraine.
Fed Chairman Jerome Powell’s remarks Wednesday validated that sentiment.
‘Inflation increased sharply last year and is now running well above our longer-run objective of 2%," he said in comments prepared for delivery to Congress.
"Demand is strong, and bottlenecks and supply constraints are limiting how quickly production can respond.”
“These supply disruptions have been larger and longer lasting than anticipated, exacerbated by waves of the virus, and price increases are now spreading to a broader range of goods and services.”
Furthermore, “economic activity expanded at a robust 5½% pace last year. ... The labor market is extremely tight,” Powell noted.
“Payroll employment rose by 6.7 million in 2021, and job gains were robust in January. The unemployment rate declined substantially over the past year and stood at 4% in January."
All that creates the impetus for the Fed to act, Powell said. “With inflation well above 2% and a strong labor market, we expect it will be appropriate to raise the target range for the federal funds rate at our meeting later this month.”
And he said during his testimony that it's likely to be a quarter-percentage-point increase. “I am inclined to propose and support a 25 basis-point rate hike,” Powell said.
“To the extent that inflation comes in higher or is more persistently high than that, then we would be prepared to move more aggressively by raising the federal funds rate by more than 25 basis points at a meeting or meetings.”
Ukraine War Implications as Yet Unclear
As for the Ukraine war, while it hasn’t affected the Fed’s policy yet, “The implications for the U.S. economy are highly uncertain, and we will be monitoring the situation closely,” Powell said.
“Making appropriate monetary policy in this environment requires a recognition that the economy evolves in unexpected ways. We will need to be nimble in responding to incoming data and the evolving outlook.”
The war pulls the Fed in both hawkish and dovish directions. The rise in commodity prices, such as oil, stemming from the conflict adds to inflation. And that would normally influence the Fed to be more hawkish.
But the disruption could also dent economic growth, and that would push the Fed to be more dovish.
Meanwhile, the Fed continues to expect inflation to lessen later this year, “as supply constraints ease and demand moderates because of the waning effects of fiscal support and the removal of monetary policy accommodation,” Powell said.
“But we are attentive to the risks of potential further upward pressure on inflation expectations and inflation itself from a number of factors.”
