Author: Du Yu, Li Dan, He Hao, Wall Street Journal
On Friday, August 23, Federal Reserve Chairman Powell "spoke dovishly" at the Jackson Hole Global Central Bank Annual Meeting, saying that it was time to adjust policy and that he did not seek or welcome a further cooling of the job market. His confidence in inflation falling to 2% has increased, confirming the market's expectation that Powell would deliver a "dovish" speech.
Analysts said that the policy shift of Federal Reserve Chairman Powell has been completed. Powell showed comprehensive dovishness in his speech. Two years ago, he also said at the same time that the Federal Reserve would accept economic recession as the price of restoring inflation.
Powell's speech's heavy dovish turn pushed the S&P close to a new high, small-cap and chip indexes rose by about 3%, and all major indexes rose by more than 1% for the week, with small-cap stocks being the best. Tesla and Nvidia rose by more than 4.5% on Friday, and regional bank stock ETFs rose by more than 6% at one point. Short-term U.S. Treasury yields plunged by double digits, the U.S. dollar fell 1.7% this week, spot gold rose by more than 1% to $2,510, the pound was at its highest in nearly two and a half years, the yen rose by more than 1%, the offshore renminbi rose by more than 300 points, and oil rose by more than 2%.
01 The Fed took a major dovish turn, Powell made it clear: It’s time to adjust policy
At 10 a.m. Eastern Time on Friday, August 23, Federal Reserve Chairman Powell made an important statement at the Jackson Hole Global Central Bank Annual Meeting.
It is worth noting that Powell stated quite clearly: "The time for policy adjustment has come. The policy direction has been made clear, and the timing and pace of interest rate cuts will depend on subsequent data, changes in the outlook and the balance of risks."
Some analysts said that although Powell confirmed the market's widespread expectation of starting interest rate cuts in September, this speech was also "dovish", providing a certain clarity to the financial market in the short term, but did not provide many clues about how the Fed will act after the September meeting.
For example, if there is another negative employment report, whether there will be a sharp 50 basis point rate cut, and whether rate cuts will continue in the coming months. However, Powell's speech at least confirmed that the Fed's fight against inflation over the past two years is about to reach a critical turning point.
After Powell finished reading from his prepared remarks and a possible question-and-answer session was not live, swap traders left their forecast for the total amount of rate cuts by the end of 2024 unchanged at about 98 basis points. The probability of a 25 basis point cut in September also remained steady.
In the market reaction, the gains of US stock indexes continued to expand. One hour after the opening, the S&P 500 had risen by more than 1%, and the Dow Jones Industrial Average once rose by 400 points. The Nasdaq, which is dominated by technology stocks, and the Russell small-cap stocks, which are more sensitive to the economic cycle, led the way, rising by 1.5% and 2% respectively. The US regional bank index rose by 5%, the largest increase in eight months, while the US Treasury yield and the US dollar index plunged in the short term, both of which were related to the logic of "the Federal Reserve is about to cut interest rates" and the transaction.
The economic seminar that Powell attended was titled "Reassessing the Effectiveness and Transmission of Monetary Policy." His speech not only reviewed the shift in the balance between the Federal Reserve's two major missions of "employment and prices" after the epidemic, pointed out how future policy directions should be adjusted, but also tried to clarify why the unemployment rate can remain low even when inflation has dropped significantly.
He first pointed out that the risk balance facing the Fed's two major tasks of "maintaining price stability" and "achieving full employment" has changed, and emphasized the importance of stabilizing the labor market at this stage when inflation continues to fall back to the 2% target:
“Four and a half years after the outbreak of the COVID-19 pandemic, the worst economic distortions caused by the pandemic are receding. Inflation has fallen sharply, the labor market is no longer overheated, and conditions are now looser than before the pandemic. Supply constraints have normalized.
Our goal is to restore price stability while maintaining a strong labor market and avoiding the sharp rise in unemployment that would occur in earlier periods of inflation if inflation expectations were less firmly anchored.”
On inflation, Powell praised progress in cooling inflation, saying, "After a pause earlier this year, we are back on track toward our 2% objective. I am increasingly confident that inflation will return to 2% on a sustainable basis."
He believes that this is mainly because the tight monetary policy has helped restore the balance between aggregate supply and aggregate demand, eased inflationary pressures, ensured that inflation expectations remain stable, and made "inflation now closer to our target, with prices rising by 2.5% in the past 12 months."
Commenting on the job market, he asserted that "now that the labor market has cooled substantially from its prior overheating, it seems unlikely that the labor market will be a source of rising inflationary pressures in the near term. We do not seek or welcome a further cooling of labor market conditions."
Specifically, the U.S. non-farm unemployment rate began to rise more than a year ago and is currently 4.3%. Although it is still low by historical standards, it is almost a full percentage point higher than at the beginning of 2023. Most of the increase in unemployment has occurred in the past six months.
But Powell tried to defend the solid nature of the current U.S. economic situation, saying:
“So far, the rise in unemployment has not been the result of an increase in layoffs, which is common during economic downturns. Instead, the increase in unemployment primarily reflects a large increase in the supply of workers and a slowdown in the previously frenetic pace of hiring.
Even so, the cooling of labor market conditions is evident. Job growth has remained solid but has slowed this year. Job openings have fallen, and the ratio of job openings to unemployed persons has returned to pre-pandemic levels. Nominal wage growth has slowed. Overall, labor market conditions are less tight now than they were before the pandemic in 2019, when inflation was less than 2%.
Overall, the economy continues to grow at a solid pace. But inflation and labor market data suggest that the situation is changing. Upside risks to inflation have diminished, while downside risks to employment have increased. The Fed is focused on the risks to each of its dual mandates.
Powell then stated that the Fed "will do everything it can to support a strong labor market while further achieving price stability," and made it clear that interest rate cuts are the future policy direction:
“By appropriately reducing policy constraints, we have good reason to believe that the economy will return to a 2 percent inflation rate while maintaining a strong labor market. Our current policy rate level provides ample room to address any risks that we may face, including the risk of a further deterioration in labor market conditions.”
In the second part of the speech, Powell spent more time discussing the rise and fall of inflation before and after the COVID-19 pandemic, and explored why inflation could drop significantly while the unemployment rate remained low, seemingly continuing to portray the US economy as a rare "soft landing."
However, some analysts said that during the COVID-19 pandemic, the Fed failed to raise interest rates in time to respond to soaring inflation. Powell's remarks highlight that Fed officials want to avoid making policy mistakes again at a time when price growth is slowing. Their success or failure will determine whether the Fed can achieve a so-called "soft landing," that is, curbing soaring inflation without putting the economy into recession.
Using the platform of the Jackson Hole Global Central Bank Annual Meeting, Federal Reserve officials have repeatedly "leaked" that interest rate cuts are imminent. Except for the Fed Chairman Powell, who has a loudly dovish voice, other officials have either strongly supported the fact that the economic environment does not require tightening, or bluntly stated how interest rates should be cut.
Philadelphia Fed President Patrick Harker repeatedly mentioned on Thursday and Friday that interest rate cuts should be "methodical"; Chicago Fed President Goolsbee said the Fed should not only fight inflation, but it is time to pay more attention to employment; the monetary policy is already quite tight and the economy is not overheated, so there is no need to tighten the money policy; Atlanta Fed President Raphael Bostic said we cannot wait until inflation drops to 2% before taking action, and there may be more than one interest rate cut this year.
02 The New Fed News Agency called for Powell's turn, suggesting that the door is open to a larger rate cut
Federal Reserve Chairman Powell completely let out his dovish attributes at this year's Jackson Hole central bank annual meeting. This is the latest assessment of Nick Timiraos, a veteran journalist and mouthpiece of the Federal Reserve known as the "New Fed News Agency."
On the morning of Friday, August 23rd, Eastern Time, after Powell’s speech, Timirao posted a comment on social media X:
"Powell has completed his policy shift. Two years ago, Powell hinted that the Fed would accept a recession in exchange for inflation returning to normal. Now, his stance has become fully dovish."
Timiraos then cited the following sentences from Powell’s speech to prove his dovish leanings, including:
“The cooling of labor market conditions is unmistakable.”
“The labor market is unlikely to be a source of rising inflationary pressures any time soon.”
“We do not seek or welcome a further cooling of labor market conditions.”
"The time has come for policy adjustments. The policy direction has been made clear, and the timing and speed of rate cuts will depend on subsequent data, changes in the outlook and the balance of risks."
“We will do everything we can to support a strong labor market while achieving further progress on price stability.”
Wall Street Journal noted that although there was no separate article commenting on Powell's speech, Timiraos's X posted a link to a report. This latest report, in which he participated in the contribution, pointed out that recently, some Federal Reserve officials have used relatively obscure words such as "gradual" and "methodical" to express that they expect the Fed to have a series of 25 basis point interest rate cuts.
Although Powell was persuasive in describing the Fed's rate-cutting goal, he did not specify how to achieve it, and he completely avoided using words like "gradual" and "methodical." By avoiding such language, Powell left the door open to more aggressive rate cuts in the coming weeks if there are signs of more severe weakness in the labor market.
The article also pointed out that Powell's statement was less ambiguous than his speech at the Fed's post-meeting press conference in late July, when he said the Fed needed more data to be confident that inflation was falling. Friday's speech showed that he now has those data.
Timiraos mentioned other impressive sentences in Powell's speech in another post on X. Among them, when explaining the causes and behavior of inflation since 2020, Powell realized that not everyone would agree with his framework, so he concluded: "This is my assessment of events. Your opinion may be different."
Under this post, the comment with the highest number of likes wrote, I am glad that it is not an emergency rate cut.
03 US "high inflation whistleblower": The Fed has recovered from serious inflation mistakes, but it misjudged the neutral interest rate
On Friday, the U.S. "high inflation whistleblower" and former U.S. Treasury Secretary Summers said that although the Federal Reserve failed to act quickly to address the surge in U.S. inflation in 2021, hitting a low in its monetary policy history, it ultimately made enough efforts to correct the economy.
“I have to give the Fed credit. While it’s not always obvious, they’ve acted forcefully and aggressively enough to keep inflation expectations anchored,” Summers said. “We all make a lot of mistakes. The important thing is to recognize it when you make one and correct it.”
Shortly before Summers spoke, Fed Chairman Jerome Powell announced on the same day that it was time to adjust policy because consumer price increases have cooled, upside risks to inflation have diminished, and employment risks have increased. Powell also acknowledged that the initial judgment in the spring of 2021 that inflation would be "transitory" proved to be wrong later that year.
Although Summers said the Fed was right to prepare to cut interest rates at its September meeting, he also believed that more caution was needed about the medium-term outlook for monetary policy.
Summers said he would be surprised if the Fed lowered interest rates to the level that the market is pricing in, which derivatives markets suggest will be about 3% over the next two years. The target range for the federal funds rate is now 5.25% to 5.5%.
Speaking about Fed policymakers’ estimates of their long-term benchmark interest rate, Summers noted that Fed officials’ expectations are below 3%, which is still too low. The so-called neutral rate may be higher than in the past due to large U.S. fiscal deficits and strong investment in the green economy and advanced technologies, which are putting pressure on borrowing costs.
Summers said bluntly, "I think the Fed made a serious mistake by thinking that the neutral interest rate was so low and therefore misjudged the restrictiveness of any given policy level. If you don't have the right North Star, you can't navigate accurately."
