Following these comments, financial markets also repriced how many Fed rate cuts were priced in to 2023.
The general tone of Mr. Powell’s speech was more aggressive than the markets expected, and as such, the Nasdaq plunged more than 2.77 percent and the S&P 500 fell 1.89 percent in early trading.
Investors reacted to the speech by extending the rise in short-term Treasury yields. The two-year note rose to 3.44 percent, while the 10-year bond yield rose 7 basis points to 3.033 percent.
Investors probably hadn’t fully considered how much higher inflation will stay above the Fed’s 2 percent target due to wage pressures and what that means for the central bank’s rate decisions.
Powell indicated that the 2 percent target was non-negotiable.
“We are deliberately moving our policy stance to a level that will be restrictive enough to bring inflation back down to 2 percent,” he said.
Headline annual inflation in the US fell to 8.5 percent in the year to July, from its 41-year high of 9.1 percent.
Powell said there was “no reason for complacency, with inflation having been well above our target for some time.”
“While lower inflation readings for July are certainly welcome. The single-month improvement is well below what the committee will need to see before we are confident that inflation is coming down.”
“Our decision at the September meeting will depend on the totality of the incoming data and the evolution of the outlook,” he said.
“Restoring price stability will take some time and requires using our tools aggressively to better balance supply and demand,” Powell said in remarks that will be broadcast live for the first time from inside the shelter where the interview was held. out the event. since 1982.
Powell warned that sustained higher rates would bring some pain to households.
“While higher interest rates, slower growth and softer labor market conditions will reduce inflation, they will also bring some pain to households and businesses,” he said.
Chris Zaccarelli, chief investment officer at the Independent Advisor Alliance, said another market correction could be just around the corner if the Fed sets a course for rates significantly higher than what financial markets had priced in.
“If the Fed is going to raise interest rates until the US goes into a recession, then the stock market needs to be down 20 to 30 percent from its previous high, as that is the bottom that prices go down. markets, on average, for a given NBER-recession,” Zaccarelli said.
Powell’s comments at the retreat, which brings together top policymakers from around the world, come after the Fed raised rates by 75 basis points at its last two meetings to leave the official Fed funds rate at 2.5 percent.
In June, Fed officials projected rates would rise to 3.4 percent by the end of this year and 3.8 percent by the end of 2023. They will update those forecasts in September. Financial markets have the benchmark lending rate peaking at less than 4 percent early next year.
Out of balance
An important determinant of the pace of rate increases will be the strength of wages and inflation. Powell said the labor market was “clearly out of balance” with demand for workers “substantially” outstripping supply.
The US unemployment rate hit a five-decade low of 3.5 percent in July and payrolls have fully recovered to pre-pandemic levels.
Before Powell’s speech, several Fed officials stressed that the central bank is by no means done, with Kansas City Fed chief Esther George signaling that the fate of the fed funds rate may be higher. than the current market price.
“We have to raise interest rates to slow demand and bring inflation back to our target,” said George, who votes on monetary policy this year.