By Howard Schneider
WASHINGTON (Reuters) -U.S. Federal Reserve Chair Jerome Powell and nominees for three Fed Board seats will testify on Capitol Hill on Wednesday, laying out over several hours of hearings a set of views that could broadly shape the economic conditions facing the country during a contentious presidential election campaign next year.
The themes sounded familiar in prepared testimony released ahead of the congressional meetings: Inflation is too high and interest rates need to remain restrictive to fight it; the job market remains strong and may even need to weaken some for prices to cool; bank failures in March haven’t rattled the financial system in a fundamental way.
But next year’s economy, when the U.S. may face an era-defining rematch between incumbent Democrat Joe Biden and Republican former President Donald Trump, could well be made or broken by upcoming Fed decisions over how much higher interest rates need to rise, and whether the bias in monetary policy remains tilted towards controlling inflation even at the possible cost of a recession.
“Inflation has moderated somewhat since the middle of last year,” Powell said in remarks prepared for delivery to the House Financial Services Committee in one of his regularly scheduled twice-yearly monetary policy updates to Congress. “Nonetheless, inflation pressures continue to run high, and the process of getting inflation back down to 2% has a long way to go.”
Though Fed officials held off on raising interest rates at their meeting last week, Powell called that an exercise in prudence, allowing time to gather more information before deciding on further rate increases that “nearly all” Fed policymakers feel will be necessary by the end of the year.
Powell’s inflation-fighting message was echoed by others testifying on Wednesday.
“The economy faces multiple challenges, including inflation, banking-sector stress, and geopolitical instability. The Federal Reserve must remain attentive to them all,” Fed Governor Philip Jefferson said in prepared testimony released on Tuesday, ahead a Senate Banking Committee confirmation hearing on Wednesday for his nomination as vice chair. “Inflation has started to abate, and I remain focused on returning it to our 2% target.”
Alongside Jefferson at the same hearing, senators will question Fed Governor Lisa Cook, who is up for appointment to a full 14-year term on the seven-seat Board of Governors, and Adriana Kugler, the U.S. executive director to the World Bank and the first Fed board nominee of Hispanic heritage.
Both the House and Senate committee hearings start at 10:00 a.m. (1400 GMT).
Despite the consensus on lowering inflation, the Fed is at a point where opinions about the need for and timing of additional interest rate increases may start to diverge. As it was for past presidential incumbents, how that debate gets resolved could make the difference between a benign election-year economy and a corrosive one.
For Biden, the success or failure of Fed policy could mean a “soft landing” of continued economic growth, lower inflation and only modestly higher unemployment, or it could force him to campaign against a backdrop of increasing joblessness, stubbornly higher prices, and punishing interest rates for anyone trying to buy a home or car or finance a business.
The outcome of the Fed’s inflation battle may still take months to spool out, and “the closer it happens to election day the worse it is for Biden,” said Preston Mui, senior economist with Employ America, a research and advocacy group that focuses on full-employment policies.
Mui said recent data have made the achievement of a “soft landing” seem more likely, though the Fed still is primed for further rate increases that could raise the possibility of a recession or an unnecessary increase in unemployment.
The Fed at its meeting last week held its benchmark interest rate steady at between 5% and 5.25%, but officials projected rates will have to increase another half percentage point by year’s end because inflation has been falling so slowly and remains more than double the Fed’s 2% target.
JOBS AND INFLATION
At this point in his first term Biden is given particularly low marks for his management of the economy, despite near-record-low unemployment, steady job gains and rising wages.
Rising prices, which at one point or another have touched food and gas as well as discretionary goods and a variety of services, may be one reason why.
In a Reuters/Ipsos poll conducted June 2-5, just 35% of respondents approved of Biden’s economic stewardship. Some 53% disapproved, according to the poll, which had a three-percentage point margin of error.
Just 25% of respondents approved of how Biden has handled inflation.
In large part that job has fallen to the Fed, but it is a central bank of Biden’s making. If the current crop of nominees is approved five of seven board members would be Biden appointees. It would also be the most diverse board in the Fed’s history, with two Black board members including the vice chair, the first Hispanic, and as many women, three, as white men, the Fed’s traditional recruitment pool.
Powell was initially elevated to Fed chair by Trump but reappointed by Biden.
The Fed under Powell has raised interest rates faster than at any time since former Fed Chair Paul Volcker’s inflation fights of the 1970s and 1980s.
Though Fed officials and economists disagree over whether there needs to be a tradeoff with unemployment to control inflation – a deeply rooted concept in economics, with labor “slack” seen loosening the pressure on prices – policymakers at last week’s central bank meeting projected the jobless rate will continue to rise from now through 2024 as inflation falls.
The increases are modest, from the current 3.7% to 4.1% by the end of this year. But the rate also continues increasing through the election year, to 4.5% – the equivalent of about 1.3 million lost jobs from today’s level.
For U.S. electoral politics, a backdrop of rising unemployment is hard on incumbents, and data from May show some of the risk for Biden. The unemployment rate for Black Americans, a constituency central to his 2020 victory, jumped nearly a full percentage point – an increase which, if sustained or added to, could raise the political stakes around the Fed’s inflation fight.
(Reporting by Howard Schneider; Additional reporting by Jason Lange; Editing by Dan Burns and Andrea Ricci)