Jerome Powell, chairman of the U.S. Federal Reserve, arrives to a Senate Banking Committee hearing in Washington, D.C., U.S., on Tuesday, July 17, 2018. Powell said the central bank will continue to gradually raise interest rates "for now" to keep inflation near target amid a strong U.S. labor market. Photographer: Andrew Harrer/Bloomberg
Jay Powell, Fed chair © Bloomberg

As you were. Jay Powell, the Federal Reserve chair, testified to Congress on Tuesday following the publication of the Fed’s twice-yearly monetary policy report last week.

Mr Powell, as has been his wont since he took over the job five months ago, made few waves in his testimony. He gave an upbeat but balanced view of the health of the US economy, and reiterated that the Fed’s strategy was to continue to raise rates gradually while being guided by the data.

The emphasis on watching the data is welcome, and shows a gratifying continuity with Janet Yellen, his predecessor. But the central bank still leans towards tightening more firmly than the circumstances warrant.

As has been the case for a long time, the US economy is growing well, with consumer confidence and industrial production both healthy. But there are few signs that inflationary pressure is feeding through to the labour market.

Headline consumer price inflation hit 2.9 per cent in the 12 months to June, the highest rate since February 2012. But the measure has temporarily been boosted by the rise in fuel costs. The Fed’s preferred measure, the deflator for personal consumption spending excluding volatile food and energy prices, has only just managed to crawl up to the Fed’s 2 per cent target after six years of undershooting.

While consumer price inflation may have risen, there is precious little evidence that a tight labour market will deliver more inflationary pressure. Although nominal wages have risen modestly, they have failed to do more than keep pace with consumer price inflation. Real wages are essentially unchanged over the past year.

The picture is consistent with a large reserve of underemployment holding down labour costs, meaning that the economy has still not generated enough jobs for inflation to take off. Moreover, if Mr Trump’s trade tariffs start to feed through directly to consumer inflation — and China retaliating against the $200bn in fresh restrictions that Mr Trump is threatening would certainly do that — real wages will come under further pressure.

Workers may try to claw back that lost ground through higher nominal pay, but so far they have lacked the bargaining power to do so. Wage inflation has undershot expectations so consistently over the past decade that it would be reckless automatically to assume that a wage-price spiral will take off.

Another indicator should also give the Fed some pause. The yield curve has flattened, traditionally a harbinger of economic slowdown, pushing the spread between 2-year and 10-year Treasury bond yields down to its lowest since 2007.

There are some reasons to think that this is currently a less reliable predictor than normal. Ben Bernanke, Mr Powell’s predecessor-but-one, this week argued that quantitative easing by other central banks and regulatory changes had altered the usual relationships by artificially depressing long-term interest rates. This may be true, though some also counselled against worrying in 2006 when the curve was last inverted, and yet the US went into recession the following year. At the very least, it is certainly another argument for the Fed to think carefully before tightening policy.

In his five months in the job, Mr Powell has generally shown himself to be a safe pair of hands and a collegiate Fed chair. But he has not yet been tested by a downturn or a market crisis. The Fed is already too biased towards higher rates. It must be ready rapidly to halt or reverse the steady grind upwards if the recovery falters or financial stability is seriously threatened.

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