To understand the answer, we need to take a close look at Federal Reserve Chair Jerome Powell’s annual speech at the Jackson Hole Economic Symposium on August 22, 2023. His testimony prompted a lot of debate on where we’re at economically, especially regarding the labor market and inflation. Powell’s abrupt increase in optimism about inflation has piqued the interest of economists. At the same time, his more dovish take on the US jobs market has piqued the interest of investors.
In his remarks, Powell expressed his frustration with the weakening labor market. He acknowledged that it isn’t very tight and it’s going in the direction of downside risks. He noted, “Given that the labor market is not particularly tight and faces downside risks, [a lasting inflation dynamic] does not seem likely.” This marks a big change in tune because Powell not long ago argued that inflation was still a major threat.
After his speech, interest rates on the short end of the yield curve plunged. Financial markets did not waste time reacting to Powell’s assurances. This reaction reflected the growing nerves about future monetary policy and what it might mean for future economic growth. The Federal Reserve’s approach has changed considerably in recent months, particularly as inflation measures have begun to cool.
Even though Powell had been rather emphatic in his previous statements about fighting inflation, he was unusually confident in the retraction of the inflationary forces at play. This new tone is a dramatic departure from past administration policies aimed at suppressing price increases at all costs. As a consequence of this development some analysts are even predicting an eventual cut in interest rates.
For the month of September 2024, the CPI fell 0.3% from August, and year-over-year the CPI increased 2.4%. Powell started cutting rates, fast and furiously. This timing raises numerous critical questions about the efficacy of these monetary interventions. It’s particularly timely given current fears over entrenched inflation. That has changed with the most recent CPI release for July which was up only 2.7% year-over-year. At the same time, both the Producer Price Index (PPI) and CPI have increased by almost 3% per year.
Powell’s high-profile pivot on interest rates hasn’t been immune to scrutiny. In his defense, some analysts say that he should not be subject to such intense criticism for wrongly predicting interest rates. Critics are cautioning that his late-in-the-game decisions to cut rates risk undermining long-term economic stability.
Now, longer-duration debt is under new global pressure. No wonder countries like the United Kingdom and Japan have experienced historic leaps in their government bond yields. As of the end of September, the yield on the UK’s 30-year Gilt was over 5.6%, at its highest level since 1998. In markets, Japan’s 30-year government bond yields 3.23% on Monday, a record high. At the same time, the 20-year bond yield reached 2.67%, its highest yield in over a quarter century.
Parallel moves in bond yields show increasing concerns over growing fiscal deficits. This significant trend has the potential to directly influence the monetary policy decisions of central banks worldwide. The unemployment rate is an eye-popping 4.2%, unchanged from a year ago. This context is like an odd combination of the bad sandwich— a robust labor market joins increasing concern over inflation and the trajectory of fiscal policy.
Powell’s remarks at Jackson Hole highlight the complexities faced by central banks in navigating economic recovery while managing inflationary pressures. Nonetheless, as policymakers continue to address these challenges, the global economic outlook is persistently uncertain.
“…with policy in restrictive territory, the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance.” – Jerome Powell