Powell delivers some tough lessons at Jackson Hole

27 Aug 2022 , 03:14 PM

Over the last few days, global markets had been jittery over what Jerome Powell, the Fed chair, would say in his Jackson Hole Address. The Jackson Hole symposium has emerged as one of the most prestigious congregations of global policy makers and thinkers. Over the last 43 years, the chiefs of central banks from across the globe and leading academicians and economists would get together for a 3-day brainstorming session at Jackson Hole, Wyoming to deliberate. It was as the very Jackson Hole meet in 2019 that the “Dovish till recovery” plan was created and tacitly approved by the participants.

However, 2022 presented a different set of challenges altogether. Post-COVID recovery was done and dusted and the latest challenge was on rampant inflation. Even the theme of the 2022 Jackson Hole Symposium, “Reassessing Constraints on Economy and Policy”, was quite clear that the focus would be on how central banks needed to rethink their dovish stance. It is in this light that the speech by Powell had assumed a lot of importance. When Powell eventually spoke on 26th August 2022, it was for less than 10 minutes. However, the message was that Fed was far from done with rate hike and would persist with the hawkish approach till inflation gravitated towards the 2% long term target. Now for the key takeaways from the Powell address.

12 major takeaways from Powell’s address at Jackson Hole

The tone of hawkishness was unmistakeable. However, the message was a lot more elaborate and nuanced. Here are the key takeaways from Powell’s speech.

1. While the Fed chairman, Jerome Powell, underlined that they would continue to hold on to their hawkish stance, the emphasis was on the usage “will use our tools forcefully”. This underlined that the Fed would not hesitate to continue to remain hawkish and hike rates rapidly to curb inflation. Interest rates in the US have already gone up from 0.00%-0.25% range to 2.25%-2.50% range between March and July 2022.
2. At Jackson Hole, Powell emphasized that despite the hawkish stance of the Fed, inflation still persisted close to 40-year highs (like Volcker era). In the US, the level of 2.25%-2.50% is considered to be the neutral range. There had been apprehensions that the Fed would go slow from here due to the rate hikes impacting growth directly. However, Powell has underscored that the Fed would not hesitate to attack inflation with force.
3. The big debate in the global markets has been, how much of rate hike would the Fed attempt in the September 2022 FOMC meet. Fed has already hiked rates by a record 75 bps in June and repeated another 75 bps in July. The hawkishness in Powell’s speech seems to underline that there could be another 75 bps hike in September. The CME Fedwatch shows the probability of 75 bps hike in September surging to 70%.
4. On the question of whether inflation had peaked to warrant a sober stance, Powell did not see merit in going by the data flow of just one month. According to Powell, even if the assumption of inflation peaking was correct, the Fed would go by marked signals of inflation falling. If one looks at a combination of consumer inflation and PCE inflation in the US, the indications are of inflation still sticky at elevated levels.
5. The Powell speech has left no one in any doubt that the Fed would chase inflation even if it meant some degree of economic pain. That is why, Powell even warned the audience at Jackson Hole of “some pain” ahead as central bank stuck to its fight against inflation. Obviously, with the inflation at close to 40-year highs, there was little choice but to use the monetary tools at its disposal forcefully and unambiguously.
6. In a rather dramatic sweep, Powell declared that for the Fed it was a choice between the devil and the deep sea. The aggressive rate hikes would bring down inflation but it would also have some unfortunate costs like slower growth and softer labour markets. However, Powell was quick to add that the Fed had chosen the lesser of the two evils since the failure to restore price stability would mean much greater pain in the long run.
7. On the subject of whether the inflation battle would trigger a recession, Powell underlined that the US real GDP had contracted in the last 2 quarters. It had contracted by -1.6% in Q1 and -0.6% in Q2. However, the revised estimates for Q2 were 30 bps lower than the original estimate. Also, nominal growth in GDP as still above 8% and the pain was purely due to high inflation. That is where the Fed is keeping its focus on.
8. Over the last 40 years, there have been consistent debate on whether central banks should focus on price stability or boosting growth. In his Jackson Hole speech, Powell emphasized that “Price stability was the responsibility of the Federal Reserve and served as the bedrock of the US economy”. The gist of the message was that, without price stability, the economy does not work for anyone.
9. Despite repeated exhortations, Powell has refused to get into specifics of the quantum of rate increase in the coming meets. Fed has been non-committal on 75 bps rate hike in September but has restrained himself to saying that he would prefer to be data driven. He also added in his rather brief address that monetary policy would automatically become appropriate and more palatable as the data points showed improvement.
10. Powell emphasised an important aspect that as much as managing inflation was critical, it was also important to manage the inflation expectations. Normally, consumer inflation expectations feed into actual inflation and spending. It is called “Rational Inattention”. People generally pay less attention to inflation when it is low and more attention when it is high. Today, the big risk is that everyone believes inflation will be entrenched.
11. At a macro level, Powell once again emphasized that two things had worked against the average American household. Firstly, the post COVID recovery in growth had been largely uneven. The recovery was cornered by the people and the businesses that were less desperate for a recovery. Similarly, inflation was also hitting the sections of the society which were least equipped and capable of handling it. That is the cycle that Powell wants to now break with his overtly hawkish persistence.
12. Finally, Powell dwelt at length on the subject of central bank credibility. Inflation expectations of households would be driven by how aggressive the Fed was in fighting inflation. In short, having begun on an anti-inflation drive; the onus was on the Fed to persist with this battle and take it to its logical conclusion. Today, restrictive monetary policy may be needed for a lengthy period of time to stem the high inflation.

Powell’s speech at Jackson Hole has left global markets with little doubt on which way Fed policy is headed. As Paul Volcker had noted in 1979, “Inflation feeds on itself, so part of the job of returning to a more stable and productive economy must be to break the grip of inflationary expectations”. After 43 years, the more economic thinking changed, it has also remained substantially the same.