Fed: Inflation Not As Temporary As We Thought

By Orbex

Fed Chairman Jerome Powell will give a series of speeches before the US Congress over the next couple of days.

They come at a particularly crucial moment, as lawmakers are coming down to the wire in an attempt to prevent a government shutdown. Powell’s testimony is part of a regular update on the Fed’s covid measures, but given the timing, investors are likely to pay more attention.

The actual speech, however, isn’t going to have an immediate impact on the markets, since we already know what he’s going to say. In reality, the presentation is more of a formality.

Nonetheless, what could move the markets are questions from Senators or Representatives after their respective hearings. Powell has become adroit at not tipping his hand in the face of questioning. The market could unexpectedly contextualize one of his comments though.

To confirm or not to confirm?

It’s not part of the schedule, but Powell’s reconfirmation as Fed Chair is likely to be hanging over the event as well.

The consensus is that President Biden will recommend reconfirming Powell in his job. This has yet to happen formally though, as Congress has to sign off on the President’s nomination.

Overall, the longer the President takes to make a decision, the less likely it is that Powell will get another term.

All those themes will take a back seat from the major development of Powell’s expected testimony on inflation. In fact, the text of his presentation is already available, in which Powell essentially extends the “temporary” nature of the “temporary high inflation”.

The key change

Previously, the Fed had said that there would be a bounce in prices as the economy recovers. Now, the narrative includes mentions of “supply bottlenecks”, which have been “larger and longer than anticipated”.

That said, Powell will go on to insist that the price increases will abate and inflation will return to the long-term target of 2%. He’s also going to reaffirm that the Fed will do “all we can” to support the economy.

Generally, the idea is to avoid using a more hawkish tone in the middle of talk of when the taper will actually start.

You keep talking about the taper, but not saying when

The Fed initially said that inflation would be back in line by the end of the year. And currently, they are predicting it will be next year.

At their last meeting, they upped their CPI forecast to 4.0% for this year. However, they wouldn’t rule out that it could be as high as 5.0%.

The expectation is that the Fed will start their taper as soon as possible, particularly because of mounting inflation pressure. They insist they want to finish the taper before raising rates, but how aggressive will that taper be?

In order to raise rates next year, they’d have to start cutting back bond purchases at a higher rate than if they were looking to raise rates later.

Now, the question in light of Powell’s testimony is if the markets will start pricing in a bigger taper than before.

Article by Orbex

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