All eyes are on Federal Reserve Chair Jerome Powell as his much-anticipated Jackson Hole speech approaches, poised to be a major market catalyst this week. Renowned economist and former Treasury Secretary Larry Summers has stepped into the spotlight, offering his insights on what Powell’s address should convey regarding inflation.
Flexible Policy: In a Washington Post op-ed, Summers advocated for Powell to highlight the Fed’s credibility, earned through its decisive shift and resolute actions in raising interest rates.
Summers underscored that this pivotal change in policy prevented a potentially challenging inflationary environment. Notably, two years ago, Fed forecasters had projected zero Fed rates for 2023.
Too Early To Call Inflation Victory: Summers also urged Powell to steer clear of declaring victory over inflation. Highlighting that inflation remains above the Fed’s 2% target, Summers acknowledged that current readings may have been affected by deflation in sectors that experienced price spikes in 2022.
He cautioned against complacency, pointing to potential inflationary pressures stemming from increased wages, particularly in sectors like parcel delivery and airline piloting.
Summers raised concerns about escalating labor costs in the health sector, rising gas prices, potential upticks in residential rentals, and external factors like climate and geopolitical events affecting commodity prices.
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Cognizance Of Fiscal Position: Powell should recognize the major implications of the fiscal position of the U.S. for monetary policy, the economist said. The so-called neutral interest rate has risen substantially and will likely rise further, given a deteriorating fiscal trajectory, he said.
“This means interest rates have to be considerably higher than they were previously to achieve any given level of restraint.”
Adjusting Inflation Target: Summers also said Powell should respond explicitly or implicitly to the growing calls for adjusting the current inflation target to 2%.
"Maintaining credibility requires the Fed making clear — and without hints of dissent from the administration — that the commitment to achieving 2% inflation is absolute both now and for the foreseeable future."
Agnostic Of Monetary Policy Course: Powell will also be better off remaining agnostic about the future path of policy even as he emphasizes the importance of containing inflation, Summers said.
“Neither the Fed nor anyone else can be confident in their ability to forecast the economy," he said.
The economist noted that inflation is still too high, labor markets are tighter than they have been since World War II, fiscal deficits are at near-record peacetime levels and stock prices are high.
“This suggests a need to recognize that it might well prove necessary to hit the brakes some more — and that it might well be a long time before it is prudent to cut rates.”
Why It’s Important: The market is resting its hopes on Powell signaling that a pause or pivot could be in the offing. Summer’s suggestion that Powell should signal “higher for longer” on the rate trajectory could intensify the sell-off seen in the market.
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