By Martin Crutsinger
WASHINGTON — When Jerome Powell is sworn in Monday as the new chairman of the Federal Reserve, the pride of the moment may be tempered by Powell’s recognition of the risks that lie ahead.
A ferocious sell-off on Wall Street on Friday — with stocks tumbling and bond yields rising after the January U.S. jobs report suggested higher inflation ahead — served as a blunt reminder of the challenges Powell’s Fed will face.
At his Senate confirmation hearing, Powell stressed his intention to carry on the cautious approach to interest rate hikes that his predecessor, Janet Yellen, pursued in four years as Fed chair. Yellen was able to oversee a gradual rate policy because inflation posed no threat: It ran below even the Fed’s 2 percent annual target throughout her tenure.
The Powell era could be entirely different. The job market is tighter. Wages are up. Federal debt will likely rise. Tax cuts could accelerate growth.
All of which seems likely to drive up inflation, which is what spooked investors Friday. The main question, is by how much? For weeks, investors have been demanding higher bond yields. On Friday, after the government said average pay rose year-over-year in January at the fastest pace in more than eight years, the 10-year Treasury yield reached 2.84 percent, a four-year high.
The Powell-led Fed would be pleased to see inflation finally reach its 2 percent goal. The problem would be if it were to surge well above that level. The Fed would face intense pressure to accelerate its rate hikes to tighten credit and curb inflation.
That’s where the risks come in: If the Fed tightened credit too little, inflation might surge out of control. If it tightened too much, a recession could result.
In December, the Fed predicted that it would raise its benchmark short-term rate three times in 2018, just as in 2017. Yet some economists now foresee four increases.
For now, the economy that Powell’s Fed will preside over shows strength and resilience. Unemployment is at a 17-year low. The economic expansion, already the third-longest in U.S. history, appears to be improving after a long stretch of subpar growth. On the surface, it might seem that all the Powell Fed needs to do now is serve as caretaker for a high-flying economy.
But the Fed has always felt compelled to respond to threats before, not after, they arise, while there is time to prevent high inflation or an economic slowdown.
“Everything points to a more aggressive Fed under Powell,” said Mark Zandi, chief economist at Moody’s Analytics.