'US economy may be ready for less stimulus by year end'

Fed chief signals US economy may be ready for less stimulus by year end

Powell provided no specifics, but instead repeated the Fed's stance that 'it could be appropriate to start reducing the pace of asset purchases this year'

Jerome Powell. Credit: Reuters file photo

The US economy and labour market have healed to the point that the central bank could begin to withdraw its stimulus measures by the end of the year, Federal Reserve Chair Jerome Powell said Friday.

But the Fed chief stressed that there was no hurry to raise interest rates, arguing that current inflation pressures will be temporary.

When Covid-19 hit the world's largest economy last year, the Fed jumped into action to prevent a major recession, slashing interest rates to zero and buying huge amounts of Treasury debt and agency mortgage-backed securities to provide liquidity to the financial system.

The pandemic recession was "the briefest yet deepest on record," Powell said in his highly anticipated speech to the annual Jackson Hole central banking symposium.

With millions of jobs recovered, he signaled that the Fed may ease the pace of bond buying from its current $120 billion per-month.

Powell provided no specifics, but instead repeated the Fed's stance that "it could be appropriate to start reducing the pace of asset purchases this year."

Any move to slow asset purchases would still leave a large amount of stimulus in place, and would not be a signal that an increase in the benchmark lending rate would soon follow, he said.

The timing of "rate liftoff" from zero will be subject to a "substantially more stringent test," Powell added.

Widespread vaccinations have allowed businesses across the United States to reopen fully, bringing the unemployment rate down to 5.4 per cent last month, much closer to the pre-pandemic level of 3.5 per cent.

However Powell said there is more work to do and the fast-spreading Delta variant of Covid-19 adds uncertainty.

Prices have jumped as the economy restarted, pushing inflation up to 4.2 per cent annually in July, well above the Fed's long-term target of two per cent, according to the central bank's preferred price index.

However, he downplayed fears inflation could accelerate, noting that supply bottlenecks appear to be resolving and wage increases do not appear to be spilling over into prices.

Inflation is likely to decline as temporary pressures, like skyrocketing prices for used cars, recede, and Powell warned that moving to respond to factors that could prove to be temporary "may do more harm than good."

"The ill-timed policy move unnecessarily slows hiring and other economic activity and pushes inflation lower than desired," he said, warning that with the labour market still healing, "Such a mistake could be particularly harmful."

The Fed target aims to get inflation running at an average of two per cent over time, which in practice means accepting higher prices for a short period.

Powell noted that inflation has fallen short of that goal for decades, but policymakers nonetheless will watch incoming data for signs high prices are becoming entrenched.

Veteran Fed-watcher Mickey Levy of Berenberg Capital Markets said Powell may have disappointed those waiting for a roadmap for the taper program, but his speech doubled-down on the focus on job gains.

"Clearly, the Fed is carrying through on its prioritization of maximum inclusive employment established in its new strategic plan, with a very loose interpretation of its tolerance of higher inflation," Levy said in an analysis.

Some Fed officials have indicated they'd like to end the bond-buying program quickly.

Gregory Daco of Oxford Economics said the Federal Open Market Committee making the decision is divided and likely to wait till its November meeting "to make a tapering announcement, and start reducing asset purchases in December or January."

While he was upbeat about the outlook, Powell noted that total employment remains about six million below its February 2020 level "and five million of that shortfall is in the still-depressed service sector."

"Given the ongoing upheaval in the economy, some strains and surprises are inevitable," he said.

"While the Delta variant presents a near-term risk, the prospects are good for continued progress toward maximum employment."

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