Friday, 03 May, 2019
Having lamented low inflation as one of the great challenges facing central bankers today in March, Jay Powell on Wednesday wrongfooted many investors with comments that seemed to play down the gravity of the problem. The new message from the Federal Reserve chairman — that “transitory” drags may be slowing price growth, rather than more persistent problems — marked a rude awakening for investors who had been hoping that he would signal an “insurance” interest rate cut this summer because of low inflation. To critics, Mr Powell’s sharp change in tone extends a pattern of unpredictable communications that have made Fed policy more difficult to read. While many accept that investors got ahead of themselves in treating a 2019 rate cut as a fait accompli, the risk is that in his effort to dial back expectations of easier policy Mr Powell undercut the central bank’s broader message: that it will do whatever is necessary to get stubbornly low inflation back on target. “Powell blindsided us on Wednesday — he upset the entire market view on inflation,” said Tim Duy, at economist at the University of Oregon. “[Inflation] outcomes are too low relative to the target, but suddenly they don’t seem to be worried about it. There is something very weird going on.” Jim Caron, a portfolio manager at Morgan Stanley Investment Management, said markets were at fault this week for assuming the Fed would double-up on Wednesday on recent dovish signalling. What’s more, he believes analysts are getting too hung up on Mr Powell’s “transitory” comments. But Mr Caron added that investor patience had also become frayed because of past communication mishaps.
“Powell has had some communication challenges,” he said. “Markets view that whenever he speaks he will make a mistake, because that has been the pattern.” Part of the difficulty facing Mr Powell and his colleagues is that the trajectory of Fed policy is difficult to predict, leaving less scope for holding the markets’ hand. Following a growth scare early in the year, economic readings have been improving in the US and elsewhere, lessening worries within the Fed that the expansion could falter. Yet at the same time inflation readings have been bafflingly weak, with the Fed’s favoured measure of core price growth decelerating to 1.6 per cent in March, even as unemployment hovers at just 3.8 per cent. With rates close to neutral, the Fed has essentially abandoned any effort to predict whether the next move will be up or down. “We don’t see a strong case for moving in either direction,” Mr Powell told reporters on Wednesday. What surprised markets was Mr Powell’s discussion of low inflation, in which he suggested he was more sanguine than Fed watchers had previously thought. The governor in March called low inflation “one of the major challenges of our time”, as the central bank holds a major review of the way it targets price growth. This week he said he did not want to diminish the issue of low inflation, but that there were good reasons to think that some or all of the unexpected weakness in core inflation in the first quarter “may wind up being transient”. Krishna Guha at Evercore ISI said it was “quite reasonable” for Mr Powell to insist that the Fed’s base case is to keep rates on hold. But he criticised the central bank’s failure to closely align the messaging in its post-meeting statement, which appeared dovish, with the press conference held by Mr Powell. More significantly, he added, “the refusal to actively contemplate a scenario where you have to cut rates to achieve the target is at odds with the Fed’s larger effort to communicate that it is deadly serious about getting inflation back to target”.
The stakes are particularly high given Mr Powell chose to hold press conferences after every policy meeting when he was appointed, increasing the number of times he takes questions from the media. “I used to think having a press conference at every Fed meeting would be a good thing. Now I think it could be a risk factor as it gives Powell more chances for miscommunication,” said Gregory Peters, a senior portfolio manager at PGIM Fixed Income. Complaints about the Fed’s communications kicked off last autumn when Mr Powell spooked markets by suggesting rates were a long way from neutral levels, and suggesting that multiple increases lay ahead. He walked that signal back, but in December delivered another shot of anxiety into markets by suggesting the Fed’s balance sheet reduction programme was on autopilot. Having lifted rates that month and stuck with forecasts of further increases, the Fed then dropped predictions that rates would rise further in its subsequent meeting. This dovish messaging has helped galvanise a significant recovery in financial markets. Eric Stein, a bond fund manager at Eaton Vance Investment Managers, said that Mr Powell’s communications have improved following earlier mis-steps. He also recalled that Ben Bernanke also slipped up early in his Fed chairmanship — most notably roiling markets when then-CNBC anchor Maria Bartiromo reported some of his unguarded comments at the 2006 White House Correspondents’ dinner.
At Wednesday’s meeting, Mr Powell “did a good job of being flexible”, he argued. “Markets may be overreacting to the ‘transitory’ comment.” The real problem, some investors argue, is that the outlook is genuinely murky and Wall Street is struggling to get used to the end of forward guidance. Under Janet Yellen, Mr Powell’s predecessor, the Fed followed a clear strategy of gradually tightening policy as the labour market strengthened. Now with rates near neutral levels, the Fed is far less clear about when it will move next — and in what direction. James Sarni, managing principal at Payden & Rygel Investment Management, argued that Mr Powell was emerging as one of the better Fed communicators because he speaks in a “straightforward fashion”. He added: “What we struggle with is that the Fed is groping around in the dark, just like the rest of us.”
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