Powell lays out cautious plan to raise interest rates, combat high inflation

Federal Reserve Chairman Jerome Powell told lawmakers Wednesday the central bank would move ahead “carefully” with raising interest rates as the Russian invasion of Ukraine looms over its battle with inflation. 

In testimony before the House Financial Services Committee, the Fed chief said the bank’s monetary policy committee is on track to raise interest rates in two weeks with inflation well above target and the economy remarkably strong.  

Powell acknowledged that the Fed has limited power over the supply shortages driving prices higher, but he said it was time for the bank to end “very highly stimulative” policy with higher borrowing costs. 

“Inflation is too high,” Powell said, “but I would also say that given the current situation, we need to move carefully. We will be nimble.” 

“We will use our tools to add to financial stability, not to create uncertainty,” Powell added. 

The Federal Open Market Committee (FOMC), the Fed panel responsible for setting interest rates, will meet March 15 to 16 and will likely announce a decision to raise rates from near-zero levels.  

The Fed slashed interest rates to a baseline range of zero to 0.25 percent in March 2020 as the economy began to crumble amid the emergence of the COVID-19 pandemic. The central bank also purchased trillions of dollars in bonds to keep financial markets flowing over the past two years. 

Powell said he and his fellow members of the FOMC expected to start a series of interest rate hikes this month as inflation hit the highest annual levels in 40 years. Prices rose 6.1 percent annually as of January, per the bank’s preferred gauge of inflation, well above the Fed’s ideal annual level of 2 percent.  

Stimulus from both the Fed and Congress fueled a rapid recovery from the COVID-19 recession, Powell said, but at the cost of higher prices. 

“We turned our dials as hard as we could,” Powell said. “We have the strongest economy in the world now. But no doubt, part of what we did and what Congress did, without naming any particular laws, is also part of the reason why inflation is now elevated.” 

Some Fed officials opened the door to a 0.5 percentage point increase earlier this month — twice the size of a typical Fed rate hike — after months of waiting for inflation to ease on its own.  

Ongoing supply chain disruptions, labor shortages and other pandemic-related constraints have pushed inflation past levels the Fed and most economists expected earlier in 2021. 

But Powell on Wednesday said he was “inclined to support” a 0.25 percentage point hike given the uncertainty driven by the war in Ukraine, all but ruling out a larger increase.  

“The ultimate economic effects of the war and all of the sanctions and events yet to come are just very highly uncertain, and we need to understand that,” Powell said.  

The Russian economy and financial system are facing collapse after the U.S. and its allies imposed unprecedented sanctions on the country’s central bank, major financial firms, key state-owned companies and prominent billionaires. The value of the ruble has plunged to less than 1 U.S. cent, dozens of companies have ended operations in Russia and Moscow has been cut off from hundreds of billions in reserves held in other countries. 

While the U.S. and allies have excluded the Russian energy industry from sanctions, prices for U.S. and European oil prices have spiked in anticipation of potential supply shocks from new sanctions or Russian retaliation. Prices for wheat, certain metals and other key exports from both Russia and Ukraine have gone up, which could drive prices for food and energy in the U.S. even higher after a year of steep increases. 

Gasoline prices rose 40 percent, energy prices generally rose 27 percent and food prices rose 7 percent annually as of January, according to the Labor Department’s consumer price index. These prices are set to rise without a quick resolution to the war in Ukraine.  

Even so, a decline in global economic activity or other unexpected shocks driven by the conflict could pull prices down in some sectors. 

Republican lawmakers were unanimous in support of the Fed’s plans to hike interest rates after months of pushing the bank to pull back stimulus sooner.  

“Chair Powell, you have an enormous task ahead of you. As one of your predecessors famously said, the Fed’s job is to take away the punchbowl just as the party starts to warm up. But the Democrats have drunk deep, and they want to move on to the harder stuff,” said Rep. Patrick McHenry (N.C.), the top Republican on the panel. 

“That’s a risk for our economy. We cannot let that happen.” 

But some Democrats expressed concerns about the Fed moving to slow the economy as supply constraints continue to increase prices. 

“Most of the inflation we’re experiencing right now can be traced back to supply chain issues related to the pandemic and the Fed cannot directly affect supply-side conditions. These supply change constraints seem likely to only significantly increase as Russia invades Ukraine and the full effect of our sanctions take hold,” said Rep. Maxine Waters (D-Calif.), chairwoman of the House Financial Services Committee.  

“If the Fed’s tools are mostly useful in stimulating or constraining demand, how can we expect monetary policy to rein in inflation that is largely driven by supply side factors?” 

Powell acknowledged the Fed had almost no control over supply constraints but said it still needed to unwind the stimulus that has already driven demand beyond a sustainable level. 

“What we’re facing now is an elevated level of demand in the face of supply side constraints, and it’s the collision of those two things that’s creating inflation,” Powell said. “There is an important job for us to move away from these very highly stimulative monetary policy settings to a more normal level of rates — and perhaps tighter — at a time when inflation is highly elevated.”