Powell shifts the goalposts
Jerome Powell’s speech has laid out the shift to a new form of Fed policy, as expected. Markets have been relatively calm as a result, although the dovish policy should be supportive of risk assets in the medium-term.
As expected, Powell’s speech has moved the Fed towards Average Inflation Targeting (AIT) as a tool of monetary policy. Crucially however there was no reference to a specific set of rules for determining how much inflation will be allowed to overshoot. Thus, the FOMC has the wiggle-room to do as it pleases with regards to inflation, focusing more on the employment side of the equation. Given that this was so widely expected (although the deliberately vague terms of reference were perhaps a surprise), the market reaction has been muted. A slump in the dollar and a bounce in equities were both swiftly reversed.
The odd thing about the Fed’s position is that it is now much more focused on the employment end, but this is precisely the area where the Fed has less control. Fiscal stimulus is much more effective at bolstering employment, but Powell knows how tricky it has been to get lawmakers to agree a new programme of aid. The Fed can say it will let inflation run above target for an extended period, but we do actually need some inflation first!
In one sense it is a good thing that the Fed has now committed to this policy, and has now junked the rules based approach to its monetary policy. But it is still far from clear how they will get the inflation they crave. September’s Fed meeting thus becomes more interesting for any possible updates on how policy will reflect this newly-evolved mandate.
Markets seem to have taken it in their stride, which clears the way for more gains in equities, all other things being equal. Expect the focus from here to be more on polling as the countdown to the US election begins in earnest.
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