Congress set to grill Fed chief amid inflation, Ukraine crisis

Federal Reserve Chairman Jerome Powell is heading to testify on Capitol Hill amid dueling economic headwinds that could be exacerbated by war in Ukraine.  

Powell will face two days of oversight hearings Wednesday and Thursday as the bank braces for a daunting battle with surging inflation.  

The Fed chief will appear first before the House Financial Services Committee on Wednesday and then before the Senate Banking Committee on Thursday for hours of questioning from lawmakers about the bank’s plan to address inflation and its outlook for financial markets.  

The U.S. economy has recovered rapidly from the COVID-19 recession, but stubborn pandemic-related supply snarls, labor shortages and unprecedented economic support has fueled the highest inflation rate in 40 years.  

Prices rose 6.1 percent over the past 12 months, according to the Fed’s preferred gauge of inflation, and the bank is almost certain to hike interest rates at its March 15-16 monetary policy meeting. 

“The inflation picture has worsened this winter as we expected, and how much it will improve later this year is now in question. While the inflation surge in 2021 was dominated by pandemic-driven supply-demand imbalances for durable goods, inflationary pressures have broadened and intensified in recent months,” wrote Goldman Sachs economist David Mericle in a research note. 

The Fed’s battle with inflation also has serious political consequences for Democrats.

Rising prices have taken a serious toll on President Biden’s approval ratings despite the relative strength of the U.S. economy. Republicans have highlighted spiking prices for food, gas and clothing throughout his first year in office with eyes on recapturing the House and Senate majorities in the upcoming November midterm elections. 

Democrats are sure to grill Powell this week on how the Fed can fight high inflation without derailing a strong labor market — a crucial balance for the Fed’s credibility and the Democratic Party’s hopes of maintaining control of Congress.  

Republicans, who’ve blasted the Fed for not yet raising interest rates, are also likely to push Powell on whether the bank has waited too long to spring into action. 

The Fed is expected to hike interest rates several times this year to get ahead of further spikes in prices for fuel, food and rent. Some officials have even opened the door to a 0.5 percentage point rate hike — twice the size of a typical increase — after the omicron variant boosted pressure on supply chains.  

But even after months of Fed officials signaling rate hikes, the Russian invasion of Ukraine has thrown the global economy into uncertainty with unknown implications for the Fed’s plans to boost borrowing costs.  

U.S. and European crude oil prices hit $106 per barrel Tuesday as markets brace for shocks to global energy supply and the impact of unprecedented sanctions on the Russian economy. Dozens of corporations have pulled out of Russia after the U.S. and its allies blocked transactions with the Russian central bank, cutting off access to the U.S. dollar and plunging the country’s economy into a tailspin.

The U.S. has limited economic and financial ties with Russia, but companies and financial institutions that operated in the country could face steep losses or issues with access to cash. 

“The demand for dollars from offshore is greater than the supply,” said Damian Sassower, chief emerging market credit strategist at Bloomberg Intelligence.  

“The endgame here is that you now have companies and investors with exposure to Russia who need dollars,” he continued. “Markets are now pricing in the fact that they will not be paid by whatever Russian holdings or Russian investments they have.” 

While the Fed has tools to help stabilize markets and keep liquidity flowing, the war in Ukraine could pose serious and inconsistent challenges to attempts to hike rates without disrupting the U.S. economy.

Energy and food commodity prices have spiked as investors brace for limited access to petroleum, natural gas, wheat and fertilizer from two major exporters of the staple goods.  

Further pressure on food and energy prices could push inflation higher even as economic activity abroad drops and financial markets slip while Russia pushes deeper into Ukraine. 

“Central banks are even less well-prepared for broader macroeconomic stress. If they counter a sudden downturn with tightening, they’ll make it worse; if they stand put, they’ll have no impact; if they drop rates, we’ll go negative and that raises a raft of instability risks all its own,” wrote Karen Shaw Petrou, managing partner at research firm Federal Financial Analytics, in a Monday blog post. 

“Many of us have noticed the Fed’s empty toolbox and worried a lot about it. It and many other central banks believed that they controlled markets so thoroughly that they could pick their time for tough decisions. Vladimir Putin has proved them wrong along with all the others who thought he was just bluffing.”