Updates From The Federal Reserve

Dear Rich Lifer,

This week, Federal Reserve Chairman Jerome Powell and Treasury Secretary Janet Yellen made their first joint appearance on Capitol Hill, where they testified on the government’s pandemic relief efforts. 

In their testimony on Tuesday and Wednesday, Powell and Yellen covered a plethora of topics such as the state of the economy, market valuations, and climate change.

They both believe that there will continue to be a strong economic bounce-back as vaccine distribution accelerates, social distancing measures relax and economic activity increases.

The focus of the hearings overall was on the Coronavirus Aid, Relief and Economic Security Act, adopted in the early days of the Covid-19 pandemic to provide financial aid to individuals and businesses.

Today we will break down the two days of testimony and share Powell and Yellen’s predictions for 2021 and beyond…

Inflation Projections 

In testimony on Tuesday, Mr. Powell told lawmakers he doesn’t expect the $1.9 trillion stimulus package to result in increased inflation, although he emphasized the central bank could intervene if needed. 

He has continually made such comments and took Tuesday as an opportunity to again state, “We might see some upward pressure on prices. Our best view is that the effect on inflation will be neither particularly large nor persistent.”

Critics of the increased stimulus have said they believe it will cause a surge of consumer spending coupled with an already improving economy, which will increase consumer prices. However, Mr. Powell remarked that the Fed will continue to commit itself to keeping inflation under control. He does not agree that a one-time surge of spending will cause lasting inflation.  

He stated: 

In the near term, we do expect, as many forecasters do, that there will be some upward pressure on prices. Long term we think that the inflation dynamics that we’ve seen around the world for a quarter of a century are essentially intact. We’ve got a world that’s short of demand with very low inflation…and we think that those dynamics haven’t gone away overnight and won’t.

The consumer-price index rose by 1.7% from February 2020 to February 2021, the most recent sign of an upswing in prices after almost a year of muted overall inflation as the pandemic quelled consumer spending. Core prices, which exclude volatile food and energy costs, were up 1.3%.

Interest Rates 

The Fed has kept its benchmark interest rate near zero since the beginning of the pandemic last year. Mr. Powell has repeatedly said that the Fed is not rushing to adjust its easy-money policies until it reaches its goal of higher inflation and a strong labor market. 

This policy was recently reinforced once again when Fed officials voted unanimously at their March 16-17 meeting to maintain overnight interest rates near zero and to continue purchasing at least $120 billion a month of Treasury debt and mortgage-backed securities.

The Fed’s long-standing practice has been to preemptively lift interest rates as a hedge against higher inflation. However, there was a shift from this standard last year due to the pandemic. 

Now, the Fed is aiming for 2% interest rates over time and is also pursuing a goal of maximum employment. Based on Fed projections released last week, this likely will not occur till 2024 or later. 

Long-Term Bond Yields 

On Wednesday, Mr. Powell indicated he is unconcerned with the recent rise in long-term bond yields. 

He believes they represent optimism about the economy’s future, stating, “It seems that rates have responded to news about vaccination and ultimately about growth. And that has been an orderly process.”

The yield on 10-year Treasury notes stood at 1.64% on Wednesday, up from 0.92% at the beginning of the year but down from a peak last week of 1.76%. Some economists are worried that a quick or continuous climb in rates could dampen the economy by making borrowing more expensive for consumers and businesses. 

However, Mr. Powell argues that the increase has come back up toward more normal levels from levels that were much lower than usual. He states he would only be concerned if “it were not an orderly process or if conditions were to tighten to the point where they might threaten our recovery.” 

The Federal Debt 

Mr. Powell stated that the federal government can manage its debt at current levels, however fiscal-policy makers should attempt to slow its growth once the economy is stronger. 

On Thursday, Powell told National Public Radio:

Given the low level of interest rates, there’s no issue about the United States being able to service its debt at this time or in the foreseeable future. Nonetheless, there will come a time—and that time will be when the economy is back to full employment, and taxes are rolling in, and we’re in a strong economy again—when it will be appropriate to return to the issue of getting back on a sustainable fiscal path. 

During testimony, Republican Senator Richard Shelby (Alaska) pressed Ms. Yellen on her changing views on the risks of high and rising federal debt. She responded by sharing her new belief that the U.S. has more capacity to borrow than she once thought. This is mostly due to declining interest rates. 

However, she did concede by saying, “It certainly doesn’t mean that anything goes. Longer run, we do have to raise revenue to support permanent spending that we want to do.” 

Under the Cares Act package that was passed last March, both Powell and Yellen are required to testify once a quarter on ways to help the economy during the pandemic, so while these testimonies are nothing new, it was the first for Yellen since being confirmed in January. 

Overall, the message of the two days of testimony was clear: the economy is positioned for a strong recovery, but re-energizing the labor market will take time.

We will see how their projects play out as 2021 continues…

To a Richer Life,

The Rich Life Roadmap Team 

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