Federal Reserve Chair Jerome H. Powell told lawmakers on the Senate Banking Committee on Wednesday that higher interest rates could lead to a recession, saying it was “certainly a possibility.”
“The events of the last few months, around the world, have made it more difficult for us to achieve what we want,” Powell said.
Powell said inflation could continue to surprise policymakers and that officials will be looking for “compelling evidence” that inflation is turning around over the coming months.
Those forces have made the Fed’s challenge of slashing inflation from 40-year highs even greater, and the Fed risks losing the confidence of the public and the markets if it does not start seeing meaningful progress.
“We understand the hardship high inflation is causing,” Powell said. “We are strongly committed to bringing inflation back down, and we are moving expeditiously to do so. We have both the tools we need and the resolve it will take to restore price stability on behalf of American families and businesses.”
Powell’s remarks come as officials from the Fed, White House and Congress are grappling with what they can do to bring inflation down. The Fed is carrying out its plan to raise rates this year, but its tools are limited, and pressure is growing on the Biden administration to do everything in its power to lower prices for American families, especially at the gas pump.
Powell will appear before the House Financial Services Committee on Thursday.
Inflation touches practically every part of people’s lives, including gas, groceries and rent, and has cemented a belief for many families that the economy is not working for them. Inflation reached a new peak in May — with prices climbing 8.6 percent, compared with prices the year before — in the latest bleak sign that the Fed’s policies to slow the economy are not working well. That shaken confidence comes as fears of a recession are also rising, with Citigroup on Wednesday putting the odds of a new recession at 50 percent.
Plus, it’s unclear whether the Fed has the tools to combat inflation of the post-pandemic era. The war in Ukraine, for example, sent prices for gas and energy soaring, while ongoing supply chain issues continue to push inflation up for a range of goods, including construction materials and semiconductors.
Sen. Elizabeth Warren (D-Mass.) asked Powell during the hearing whether higher interest rates will bring down gas prices. “I would not think so, no,” Powell responded. She then asked whether higher rates will bring down food costs for families. “I wouldn’t say so, no,” Powell said.
The Fed hiked interest rates by three-quarters of a percentage point last week, in the central bank’s most aggressive move to slow the economy since 1994. High rates raise the cost of mortgages, auto loans and a wide array of business investments. They also work to cool off an overheated economy by dampening consumer spending, so that demand for goods and services falls and prices simmer down.
“We thought that strong action was warranted at this meeting, and we delivered on that,” Powell said following the rate hike decision last week. “It is essential that we bring inflation down if we are to have a sustained period of strong labor market conditions that benefit all. … The current picture is plain to see: The labor market is extremely tight, and inflation is much too high.”
Powell said he expects more hikes of three-quarters of a percentage point, but it’s unclear exactly when or how many.
Beyond the Fed, economists argue there is room for the White House and Congress to lower prices for families and businesses. President Biden plans to ask lawmakers Wednesday to enact a gas tax holiday, but lawmakers of both parties have raised significant objections to the idea. Biden will also call on states to suspend their own gas taxes and is urging oil companies and refineries to lower prices for consumers. (Powell declined to weigh in on Capitol Hill debates over a possible gas tax holiday.)
Much of the Fed’s reputation relies on an independence from politics. But that has not shielded Powell from intense political heat. Republicans have hammered the Fed for giving too much support to the economy, and have long warned that the policymakers would fall behind the curve if they did not start hiking rates as inflation began to climb last year. Powell has acknowledged that the Fed should have moved sooner, but that hasn’t assuaged lawmakers much.
“The Fed has largely boxed itself into a menu of purely reactive policy measures,” Sen. Thom Tillis (R-N.C.) said to Powell in prepared remarks. “I am concerned the Fed will lose its credibility to effectively manage the national economic situation.”
For much of the pandemic, Democrats sided with the Fed’s priority of getting the labor market back to full strength. But inflation has stymied many of the spending priorities of Democrats in Congress and the Biden administration, especially since economists increasingly argue that the stimulus efforts from earlier in Biden’s presidency supercharged demand and helped set inflation off.
Now, as voters worry about inflation, Biden’s popularity has been hit hard, and Democrats have been going on the defensive heading into the midterms later this year.
In prepared remarks, Banking Committee Chair Sherrod Brown (D-Ohio) blamed corporations for high consumer prices and defended Democrats’ stimulus moves for helping the bank accounts of many struggling families.
“We passed the American Rescue Plan, including the Child Tax Credit — the biggest tax cut for working families ever,” Brown said. “Despite what naysayers claim, it was not the cause of inflation. For the Ohio families that I talk to, it empowered them to keep up with the cost of raising children.”