Summary
Chair Powell's elucidating testimony before Congress as part of the Fed's semi-annual Monetary Policy Report made one thing clear: the Fed is on an indefinite hold. While potential labor market disruptions could prompt a reassessment of full employment later this year, the FOMC will not even begin to contemplate additional rate cuts before policy unknowns are resolved and sustained inflation progress is observed. With its five-year framework review also underway, do not expect the Fed to adjust rates before the Fall, if at all, absent an exogenous shock such as a marked deterioration in employment conditions. Furthermore, March SEP projections appear likely to reflect reduced expectations of easing from FOMC participants. After a 100bp recalibration, the Fed intends to keep policy restrictive in order to satisfy its inflation objectives.
14 FEB 2025
EDWARD VON DER SCHMIDT
| Q&A
| Sources
Key Takeaways
The Fed does not plan to adjust rates in the near future - they continue to reiterate that they are not in a hurry to make another move. Powell repeatedly asserted strong aggregate economic conditions and a desire to see inflation move lower on a sustained basis. This will take time - quarters, not months. Only an unanticipated employment downturn or sharper-than-expected disinflation appear likely to prompt discussion of rate cuts - and probably not before the Fall. Current Fed policy looks to be entrenched.
A key factor in delaying Fed action will be awaiting as-yet undetermined policy moves from the administration and attendant effects on the economy, employment, and inflation. The Fed not only needs to wait to see what specific policies are enacted but also to observe how those policies are received by the real economy. This, too, will take time - quarters, not months. The Fed intends to proceed cautiously and react to policy in a "thoughtful, sensible way". They need to wait and see how policy plays out.
While subtle, Powell pushed back against residual rate cut expectations nonetheless. He carefully differentiated between short-term policy rates and longer-term rates, highlighting the importance of term premia and the Fed's limited control at the long-end. He also stressed solid labor market conditions, downplayed the importance of now-stale and highly-conditional SEP forecasts, and characterized neutral rates has having moved meaningfully higher from pre-pandemic estimates. Policy may be restrictive, but that's precisely what the Fed wants in order to make progress on inflation - a clear focal point.
Overall, Chair Powell conveyed humility about an uncertain policy and economic horizon.
The Chair also advocated for adjustments to capital requirements to facilitate Treasury intermediation. He added that Basel III endgame progress should be forthcoming and that the Fed's five-year review would be completed by the end of the Summer. Other testimony centered on regulatory oversight, risk monitoring, "de-banking", synthetic risk transfers, and cryptocurrencies.
These themes and the published Monetary Policy Report will be discussed further in the upcoming Macro Review: And Now We Wait.
Prepared Testimony
The economy is strong overall and has made significant progress toward our goals over the past two years.
Labor market conditions have cooled from their formerly overheated state and remain solid.
Inflation has moved much closer to our 2 percent longer-run goal, though it remains somewhat elevated.
Nominal wage growth has eased over the past year, and the jobs-to-workers gap has narrowed. Overall, a wide set of indicators suggests that conditions in the labor market are broadly in balance.
Inflation has eased significantly over the past two years but remains somewhat elevated relative to our 2 percent longer-run goal.
Longer-term inflation expectations appear to remain well anchored, as reflected in a broad range of surveys of households, businesses, and forecasters, as well as measures from financial markets.
That recalibration of our policy stance was appropriate in light of the progress on inflation and the cooling in the labor market.
With our policy stance now significantly less restrictive than it had been and the economy remaining strong, we do not need to be in a hurry to adjust our policy stance.
If the economy remains strong and inflation does not continue to move sustainably toward 2 percent, we can maintain policy restraint for longer. If the labor market were to weaken unexpectedly or inflation were to fall more quickly than anticipated, we can ease policy accordingly.
This year, we are conducting the second periodic review of our monetary policy strategy, tools, and communications—the framework used to pursue our congressionally assigned goals of maximum employment and stable prices.
The Committee's 2 percent longer-run inflation goal will be retained and will not be a focus of the review.
Q&A
Economic assessment and policy outlook:
"So overall the economy is strong, growing 2.5 percent last year. The labor market is also very solid - unemployment at 4 percent, quite a low level. Inflation last year was 2.6% for the year. So we're in a pretty good place with this economy. We want to make more progress on inflation and we think our policy rate is in a good place and we're not - we don't see any reason to be in a hurry to reduce it further."
"It is clear that the overall aggregate numbers are just very, very good for the economy. 4 percent unemployment, inflation down to 2.6 percent last year, and the economy growing well in excess of 2 percent - these are good numbers. But, what people are feeling is a result of several years of inflation - particularly for people in the low- and moderate-income category. They're really feeling it [...] We do understand that and we try to keep that in mind even though we acknowledge that the overall data are good, we see what people are feeling. And you know, that's inflation. So it's just another reminder of how much people hate inflation and how bad inflation is for people - high inflation. And you know it just furthers our resolve to get inflation back to 2 percent and keep it there."
"So the best thing we can do for Americans is to vigorously pursue both stable prices and maximum employment. We're trying to get back to a long expansion where prices are stable around 2 percent..."
"You know I would say we're close but not there on inflation. You did see today's inflation print which says the same thing. We've made great progress toward 2 percent. Last year inflation was 2.6 percent. So great progress but we're not quite there yet. So we want to keep policy restrictive for now so that we can see [cut off]"
"I think our policy's in a good place. I think inflation has come down from high levels to 2.6% last year. My colleagues and I are holding where we are, awaiting further evidence of inflation coming back down."
"So remember we're looking at two things. We're looking at the labor market and inflation. Headline inflation last year was 2.6%. And we've said, assuming the labor market remains solid and strong, we want to see further progress. We didn't actually make much progress on core PCE inflation last year - for reasons that I can explain - but nonetheless the progress wasn't there. So we want to see a resumption of progress. I'm not going to put a really specific number on it. I mean the truth is the economy is strong, the labor market is solid. And we have the luxury of being able to wait and let our restrictive policy work to get inflation coming down again and that's what we're doing."
"So yes, but the thing is, what we're really looking at is the aggregate housing services inflation... Market rents have not been showing much inflation for a long time. Market rents don't make their way into rents until leases turn over - existing leases turn over. And that's been the slow part of the process. We have seen a lot of progress on that. But we're not there yet. We're not back to levels of housing services inflation, which is what I described, but we're getting there. We're making clear progress."
"We look at the aggregate numbers. There are always industries that are growing and not growing. I think the last few job reports have been significant job creation. You saw the one here a week or so ago which revised up the last two months and strong job creation. In fact, it looks like the job creation may actually have picked up a little bit around the end of the year in the last couple months."
"The CPI reading was above almost every forecast. But I would just offer a note of caution on this. Two notes of caution. One is we don't get excited about one or two good readings and we don't get excited about one or two bad readings. The second thing though is, we target PCE inflation because we think its simply a better measure of inflation. And so you need to know the translation from CPI to PCE. And we get more data on that tomorrow we'll get the producer price index, so I think it's always wise... we'll know actually what the PCE readings are late tomorrow."
"The best thing that we can do is achieve price stability and also full employment, maximum employment. And then create a stable environment where businesses and households can not worry about inflation and we have steady and sustainable growth."
External policy impact on monetary policy:
"In any case it's not the Fed's job to make or comment on tariff policy... that's for elected people and it's not for us to comment. Ours is to try to react to it in a thoughtful, sensible way, and make monetary policy so that we can achieve our mandate."
"It really does remain to be seen what tariff policies will be implemented and I just think it would be unwise to speculate when we really don't know."
"So the net effect of all - that's what we look at. It's really not just tariffs - it's tariffs, immigration, fiscal policy, and regulatory policy. And those will all go into a mix and we'll try to make sense of it and do what's right for monetary policy."
"As you know we don't do tariff policy and we don't do commentary on tariff policy. Just generally, somebody's got to pay the tariff and it can be the exporter, it can be the importer, it can be a middleman, and it can be a consumer. In some cases it doesn't reach the consumer much in some cases it does and it really does depend on facts that we haven't seen yet."
"[Tariff's] can [contribute to inflation] but [...] there's a question of how persistent that would be and how large it would be."
"What we're doing is we're reserving judgment until we actually know what the policies are... If inflation goes up in general... we will use our tools, which is the interest rate, to bring it back down to 2 percent over time."
"The Fed has no role in setting tariffs and we don't comment on decisions made by those who do have that authority. We try to stick to our own knitting. In this particular case, it's possible that the economy would evolve in ways that - because of tariffs, or partly because of tariffs - that we would need to do something with our policy rate. But we can't know what that is until we actually know what policies are enacted. And remember it's not just tariffs. There are significant changes to immigration policy, fiscal policy, and also regulatory policy. ... We will then try to make an intelligent judgment about the overall effect on the economy of those and conduct our policy accordingly. It's not our role in any way to comment on the wisdom of the policies that are enacted by Congress or by the administration."
"So we'll make our decisions as we go about what to do with interest rates based on the data that we see, the outlook, the evolving outlook, and the balance of risks. And we'll be considering all of those things. We won't be focusing on any particular policy. And I can't tell you what we'll be doing because it will really depend - it's a fairly uncertain environment right now. The underlying economy is very strong but there is some uncertainty about new policies. We're just going to have to wait and see what the effect of those policies are before we think about what we can do or should do. "
"Well I think it's straightforward now in the sense that no one knows pretty much what the exact policies will be. That's still evolving. And so you can't really take action. You can do analysis of various hypothetical things and we've been doing a lot of that. But ultimately it matters what happens. What's tariffed, for how long, are there substitutes - many, many, many, many questions that will have to be answered. And even then, the question will be how much of that will transfer to the consumer. As you know, that can fall on the exporter, the importer, the retailer, or the consumer. So we really just don't know."
"What we're going to do at the Fed is keep our heads down and keep working. Wait to see what new policies emerge and try to make a thoughtful, sensible set of policies on our part once we understand the implications of those."
"Indirectly, yes. So we're looking at the labor market, and part of what drives growth in the labor market is population growth, and part of what drives population growth is immigration. So sure, it can matter, and sometimes it matters a lot."
"I think, you know, research over many, many years and many, many jurisdictions shows that some degree of independence is very important in keeping inflation under control. And the connection is obvious. If politicians are going to want to be reelected and things like that they're not going to be focused on the longer term. We have the mandate to remain separate from all of that, to stay out of all of that. So that we can just focus on - not on election cycles or helping or hurting any political party or politician - just on serving the public as a whole. That is essential. And you know its uniform across all advanced economy central banks."
SEP:
"So this is the Summary of Economic Projections, the dot plot. And you know, I think markets like it. It's kind of the only - it is the forward guidance that we give. We don't really mean it as forward guidance but markets do take it - sometimes they take it too seriously. I think most market participants understand that it's highly conditional and dependent on what actually happens in the economy."
Higher neutral rates:
"Let me say there was a lot of reason to be concerned about downside risk in the labor market toward the middle of this year but really that concern has diminished significantly - labor market's very strong. I think the evidence is - my own view, and there are many different views on this - is that the neutral rate will have risen meaningfully - very hard to be precise about it - from what it was - clearly very, very low before the pandemic - extraordinarily low, historically so. But yes, I think it's moved up and many of my colleagues on the FOMC feel so - feel that way too."
Elevated mortgage and long-end rates:
"As it relates to housing... it's true that mortgage rates have remained high but that's not so directly related to the Fed's rate. That's really related more to long-term bond rates, particularly the 10-year Treasury and 30-year Treasury, for example. And those are high for reasons not particularly closely related to Fed policy. They may remain high... Mortgage rates will come down - I don't know when that'll happen. And even when it does happen we're still going to have a housing shortage in many places."
"Most of what will have driven that increase will be about - some of it is about local regulation [...] it's also about just wages going up and costs of materials and things like that going up [...] and land costs and all that are going up a lot. The channel through which we affect housing is of course interest rates, and right now interest rates are still pretty high. But actually mortgage rates are really not set at the Fed those are really - key off of longer run things. Nonetheless we're clearly having an effect on the housing market and that will unwind as we normalize policy. But we're still going to be faced with high insurance costs, and high material costs and labor shortages and all the things that keep driving housing prices up across the country."
"Housing policy and things to help housing supply are really in [Congress's] wheelhouse, not ours. I do think the housing markets around the country are still suffering from the effects - from the aftereffects of the pandemic. Once that's all the way through and short term rates are down to normal - whatever the new normal level is - I think housing costs are still going to be high. I think it's still going to be expensive to build housing in many parts of the country [...] There's a short-term problem which will go away in coming years but there's a longer term problem with housing availability."
"It's not obvious though that lower rates would lead to lower housing inflation because of course that would increase housing demand. It would unlock people's low mortgages but that creates both a buyer and a seller so it's not clear that that would be something that would drive down housing inflation."
"So a lot of things go into long rates. One of them is the expected future short-rate of Fed policy, but many, many other things go in. Expectations of inflation in the longer-run, the sort of risks around the economy and around the budget deficit go into something called the term premium, which is the part we can't explain when we do these decompositions... It's set by supply and demand in the bond market at the long end... we have some influence but mostly not."
"This is really a Treasury question but from our standpoint I can say that there are lots of buyers for Treasuries but Treasury buyers are going to be factoring in their assessments of the supply that's coming. And that may be part of the reason why the term premium has increased."
"You're right that long-term rates went up. But they did not go up because of expectations of higher inflation. There's no evidence of that. It's actually different things. It's not about inflation."
"Right, so, you're right of course. We've lowered the Federal Funds rate and as sometimes happens longer rates have gone up. They've gone up and come down and gone back up. You know they've moved around but they're higher. And the reason is that - you know, we don't control long-term rates. They react to a whole bunch of different things. Including a sense of more deficit spending coming. Including expectations of more growth. And of risk of higher inflation. So markets aren't pricing in higher inflation but maybe pricing that the risk of that is there. And that could be a reaction to new policies or not. But ultimately though, the increase in longer term rates is really mostly not about Fed policy or our job of maintaining price stability. It's about other things, the term premium in particular."
"There's no question that if we were on a more sustainable [fiscal] path I do think rates would be lower."
Government Borrowing:
"We don't comment on fiscal policy other than to say that [...] the US federal budget is on an unsustainable path. It's not that the level of spending or the level of the debt itself is unsustainable. It's that the path is unsustainable, and ultimately the level of debt will be. So there's no time like the present to start working on this. The longer we wait the more painful it will be. It's something we need to do and will have to do in the long run and the short run is better than the long run for that."
"I have done so on many occasions. Essentially that the US - we're on an unsustainable path. The debt level isn't unsustainable but the path is unsustainable. And certainly its past time for Congress to work on that. But that's what I can say. I can't say more than that."
"So, I don't have a specific number. It wouldn't be appropriate. But I will say this. Having looked at this, you know the successful plans to - programs to get back on the right track, they tend to be - they tend to make progress over a long period of time. In other words, you've got to get to a place where the economy is growing faster than the debt, and then you need to stay on that path for twenty years. This is not the kind of thing where we can fix it overnight. We just need to be making progress. Right now we're running very large deficits at a time of full employment. So we need to start moving. You're either making progress or you're not. Right now we're not. The key thing is to just, you know, is for it to become a big issue and then people work together. The things that need to be done are things that can only be done on a bipartisan basis - only. The things that need to be dealt with cannot be dealt with by one particular party. I'll leave you with that."
"You know for a long time, people thought that US potential growth was a little bit below 2 percent. I think we've had a real - we've had five years of good productivity growth - we hope that will continue. If that does continue then it might be 2 or 2.25. If you're talking about long-term budget assumptions though I'd be conservative and say 2 percent."
Balance sheet unwind:
"Yes, so what we've said is that we intend to slow and then stop the decline when reserve balances are somewhat above the level that we judge consistent with so-called "ample reserves". The most recent data and the feel of the markets is definitely that reserves are still abundant. They're about the level that they were at when runoffs started because the runoff has really happened out of the overnight repo facility - reverse repo. So yes, it's an ongoing thing and we're not yet where we're headed."
"Let me say that we intend to slow - we have slowed - but then stop the process of shrinking our balance sheet at a time when we think that reserves are somewhat above the level that we judge to be consistent with our ample reserves framework. So what that means is we want reserves to be ample, meaning we don't want them to suddenly appear to be shortages. We're going to think of where those shortages might appear and we're going to put a buffer on top of that. Nothing good happens when there's not enough liquidity. So that's our overall framework. Right now we feel like all the evidence suggests that reserves are still abundant, which is more than ample."
"I think we have a ways to go. Actually the level of reserves, which is the thing we're focused on, hasn't really changed. All of that has come out of what's called the overnight reverse repo facility."
Capital requirements:
"Yes, I believe we will. I have for a long time, like others, been somewhat concerned about the levels of liquidity in the Treasury market. The amount of Treasuries has grown much faster than the intermediation capacity has grown. And one obvious thing to do is to ... reduce the effective supplemental leverage ratio or the bindingness of it."
"The trend that I see is that we have very significantly raised the capital costs of supporting market activity. Especially for low risk activities that are low-risk, low-return. What's happened is the amount of Treasuries has grown - is now much greater than the capital that's allocated to intermediate it. So that's why you see low intermediation and relative lack of liquidity. And I think it's appropriate to do something about that. And that's something that we'll be looking at is to reduce the enhanced supplemental leverage ratio to account for that. This is something that we've proposed before which I think is intended to increase liquidity in the capital markets for banks subject to it."
"I do think we need to work on Treasury market structure. And part of that answer can be and I think will be reducing the calibration of the supplemental leverage ratio as you mentioned. That's something that I have long supported and for the reason that the quantity of Treasuries has grown really significantly and the capital allocated to intermediating trades in Treasuries has not, in fact has shrunk. We need a liquid Treasury market. This is one of the things we can and should do."
Five-year framework review:
"So a good part of it will be looking at the changes we made in 2020, which were made in an environment where we had been stuck at the effective lower bound at zero for seven years. And the highest we got our rate really - sustainably was 1.5 percent. And that was the highest of any advanced economy central bank. So the concern was that at the slightest downturn we'd be back at the zero lower bound and we'd be stuck. So we were looking for ways to make up for that.
So then the question is we got this inflation out of the pandemic and the events related to it. Are we in a different place now? And I think the chances are pretty good that we - that maybe the effective lower bound is still a concern but it's not the base case anymore. So we need to look at that and decide what are the implications of that for our framework."
"We expect to complete our work and announce the results by the end of the summer."
Stablecoins, CBDC, and Crypto:
"We definitely support these efforts to create a regulatory framework around stable coins. Stable coins may have a big future with consumers and businesses. We can't know now but it is important for the development of stable coins in a safe and sound manner and manner that protects consumers and savers and all that there be a regulatory framework... We think it's a very constructive exercise."
Can I have your commitment that as long as you're the Chairman of the Federal Reserve system that we will never have a central bank digital currency?
"Yes."
"First I would say there are really two things that are happening. One is banks are serving crypto customers. And we don't want to get in the way of banks serving perfectly legal customers as long as they understand the risks and that sort of thing. We don't want to single out any particular issuer.
The second thing is undertaking activities on their own. In that case, I do think it's appropriate to - as usual, as bank supervisors - make sure that we understand and banks understand the risks that are involved in the activity that they're taking inside in an insured depository. On the other hand, you don't want to go too far."
"The notion of a wholesale CBDC is not one that we think about or accept."
Sources
Semiannual Monetary Policy Report to the Congress
https://www.federalreserve.gov/newsevents/testimony/powell20250211a.htm
Banking Committee Hearing on the Semiannual Monetary Policy Report to Congress – February 11, 2025
The Federal Reserve’s Semi-Annual Monetary Policy Report (EventID=117880)
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