Fed chair Jerome Powell on Friday signalled US interest rate cuts could come as soon as next month, suggesting a shift in policy may be needed to support the economy as evidence grows of a weakening labour market.
“With policy in restrictive territory, the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance,” he said at the Jackson Hole economic policy symposium on Friday.
The symposium, hosted by the Kansas City Fed, is closely watched by investors and economists because the gathering offers Fed officials the opportunity to express their views on monetary policy.
Traders upped their bets of a September rate cut to roughly 90 per cent after Mr Powell's speech, CME Group's FedWatch tool showed.
"The bar for an earlier cut seems to be lower now given his description of the landscape," former Fed governor Larry Meyer, who now runs LHMeyer/Monetary Policy Analytics, wrote to clients.
Mr Powell enters the final 10 months of his term as Fed chair facing an increasingly murky economic picture.
Unlike other central banks, the Federal Reserve has a dual mandate of promoting price stability and maximum employment. This complicates the puzzle currently facing Mr Powell.
Cut rates too quickly and it could reignite an inflationary spike that has still not fully recovered from the post-pandemic price surge. Hold rates for too long and it could lead to a sharp increase in unemployment, pushing the economy into a recession.
“In the near term, risks to inflation are tilted to the upside, and risks to employment to the downside – a challenging situation,” Mr Powell said. “When our goals are in tension like this, our framework calls for us to balance both sides of our dual mandate.”
But Mr Powell's high-stakes speech showed that he has since become more concerned over the jobs market since the Fed's last rate meeting.
The July jobs report showed that job gains slowed to an average pace of roughly 35,000 per month over the last three months, a much larger slowdown than previously believed. He also noted changes to immigration policy has led to an “abrupt slowdown in labour force growth”.
This delicate balancing act comes as the Federal Reserve faces increasing pressure from US President Donald Trump as he seeks to exert more control over the institution.
Mr Trump has frequently denigrated Mr Powell and at times hinted at the idea of firing him – a never-before-tested manoeuvre that Mr Trump has since backed off on.
He has, however, sought to raise the stakes on Mr Powell in different ways. This included an almost unprecedented visit to the Fed's headquarters last month, during which he criticised Mr Powell's handling of the central bank's costly renovation project.
The surprise resignation of one Fed governor also gave Mr Trump the opportunity to install a loyalist to the board on a temporary basis. The White House aims to fast-track Stephen Miran's confirmation in time for the Fed's September meeting.
Mr Trump on Friday also said he would also fire Fed governor Lisa Cook if she does not resign from the board. The threat comes a day after the Justice Department launched an investigation into Ms Cook, who has voted in line with Mr Powell on rate decisions, over allegations of mortgage fraud.
Ms Cook, whose term expires in 2038, has said she would not be “bullied” into stepping down.
Together they, along with a rotating group of regional fed bank presidents, make up the Federal Open Market Committee (FOMC) that sets its interest rates.
The FOMC held rates steady at 4.25 to 4.50 per cent last month, defying calls from Mr Trump to lower them. Two Fed members dissented, pointing to weakness in the labour market, although minutes released from the meeting earlier this week showed broad support to maintain their policy.
The UAE Central Bank, which follows Fed decisions, also held its base rate steady last month at 4.40 per cent.
Fed officials have signalled they intend to cut rates at some point this year. A dismal jobs report last month showed new signs of weakness in the labour market, which caused traders to up the probability of a rate cut in September.
“While the labour market appears to be in balance, it is a curious kind of balance that results from a marked slowing in both the supply of and demand for workers,” Mr Powell said. “This unusual situation suggests that downside risks to employment are rising. And if those risks materialise, they can do so quickly in the form of sharply higher layoffs and rising unemployment.”
However, inflation is still running above the Fed's long-term two per cent target. Underlying metrics also show that price pressures are beginning to creep into the economy through imported goods such as household furnishings, recreational goods and apparel.
“The effects of tariffs on consumer prices are now clearly visible,” Mr Powell said. “We expect those effects to accumulate over coming months, with high uncertainty about timing and amounts.”
The Jackson Hole symposium, which features a bevy of speaking engagements by Fed officials, showcased the current divisions within the central bank.
Since he does not set rates unilaterally, Mr Powell will have to steer a divided Federal Open Market Committee to his preferred monetary policy direction.
Kansas City Fed president Jeffrey Schmid, who holds a vote on the committee this year, said he was cautious of cutting rates in September. He also suggested the August jobs report due on September 5 will be “very consequential”.
The cautionary tone was echoed by Chicago Fed president Austan Goolsbee and Cleveland Fed president Beth Hammack.
That appears to suggest Fed Governors Christopher Waller and Michelle Bowman – both under consideration to be the next Fed chair – remain outliers in calling for rate cuts next month. Mr Waller is due to provide his thoughts on the economic outlook next week.
