As Biden Prepares to Tout Economy, Fed Chair Takes a Cautious Tone

WASHINGTON — Jerome H. Powell, the chair of the Federal Reserve, underscored on Tuesday that the central bank has more work to do when it comes to slowing the economy, and that officials remain determined to wrestle rapid inflation under control.

Mr. Powell, speaking in a question-and-answer session at the Economic Club of Washington D.C., called a recent slowdown in price increases “the very early stages of disinflation.” He added that the process of getting back to normal is “not going to be, we don’t think, smooth” and is “probably going to bumpy.”

His comments came hours before President Biden is set to deliver the annual State of the Union Speech and offered some contrast in tone.

Democrats are embracing a historically strong economy with super-low unemployment and rapid wage growth, and they have cheered a report last week that showed employers added more than half a million jobs in January. But Fed officials have met the news with more caution. The central bank is supposed to foster both full employment and stable inflation, and policymakers have been concerned that the strength of today’s job market could make it harder for them to return wage and price increases to historically normal levels.

Mr. Powell said that the Fed did not expect the jobs report to be so strong, and that the ongoing robustness reinforced why the process of lowering inflation will “takes a significant period of time.”

While he said that it is good that the disinflation so far has not come at the expense of the labor market, he also underscored that further interest rate moves will be appropriate and borrowing costs will need to remain high for some time. And he embraced how markets have adjusted in the wake of the strong hiring numbers: Investors had previously expected the Fed to stop adjusting policy very soon, but now see rate increases in both March and May.

“We anticipate that ongoing rate increases will be appropriate,” Mr. Powell said. He said that in the wake of the jobs report, financial conditions are “more well aligned” with that view than they had been previously.

To try to slow the economy and choke off inflation, policymakers raised interest rates from near-zero early last year to more than 4.5 percent at their last meeting, the quickest pace of adjustment in decades. Higher borrowing costs weigh on demand by making it more expensive to fund big purchases or business expansions. That in turn tempers hiring and wage growth, with further cools the economy.

Central bankers suggested in their last economic forecasts in December that they would make two more quarter-point increases this year, pushing rates to just above 5 percent.

Mr. Powell had hinted that the Fed is still discussing a couple more rate increases — and could make more if needed — during a news conference last week. He also underlined that the central bank will leave interest rates high for some time. But those comments came before the release of a blockbuster January employment report.

Still, by loosely endorsing the path that investors have priced into financial markets, Mr. Powell seemed to reinforce that basic plan on Tuesday.

Mr. Powell called getting inflation back down “the biggest challenge” facing the Fed, and noted that in the services sector of the economy — which includes restaurants, travel and health care — “we’re not seeing disinflation yet.”

“We’re going to need to be patient,” he said.

Fed officials aim for 2 percent inflation on average over time. Their preferred inflation measure remains much higher than that, at 5 percent, though that is down from a peak of about 7 percent last summer.

Central bankers are quick to acknowledge that the current bout of inflation is not primarily the result of a strong labor market and climbing wages; it stems from supply chain issues that caused shortages and collided with strong demand fueled partly by government stimulus.

But they worry that a booming economy could keep inflation unusually elevated.

Fed officials have at times said that pay gains — which have moderated somewhat but which are still climbing around 5.1 percent on a yearly basis in one closely-watched quarterly measure, and by 4.4 percent in monthly numbers — would probably need to slow to something in the range of 3 to 3.5 percent to line up with their inflation goal.

If companies are paying more, they are likely to charge more to try to cover their costs. And as consumers earn more, they may be able to keep spending despite climbing prices.

Some politicians and economists have embraced the recent slowdown in inflation and wage growth as a sign that the Fed might pull off a “soft landing”: cooling the economy enough to drive price increases lower without throwing people out of work.

But Fed officials have been more cautious about whether roaring labor conditions and moderating inflation can continue together indefinitely. Typical economic models suggest that it would be difficult for wages and prices to slow down fully in a labor market this tight.

“The underlying strength of the services sector of the economy is still very robust, and that’s where I think a lot of us are focusing our attention,” Neel Kashkari, the president of the Federal Reserve Bank of Minneapolis, said in an interview on CNBC on Tuesday.

Policymakers are intent on returning inflation quickly and firmly to their goal, because they are worried that a long period of rapid price increases could change business and worker behavior in ways that make quick inflation a more permanent feature of the U.S. economy.

Many economists believe that the Fed’s halting response to inflation allowed that kind of entrenchment to happen in the 1970s, which meant that when the Fed did respond decisively in the 1980s, it had to inflict serious pain on the economy to bring inflation under control.

“We have a significant road ahead to get inflation down to 2 percent,” Mr. Powell said, adding that it will take time and more rate increases, and the base case is not that inflation will go away quickly and painlessly.