Fed Officials Fretted Bank Turmoil Could Have Serious Economic Consequences

WASHINGTON — Federal Reserve officials wanted to remain flexible about the path ahead for interest rates, minutes from their March meeting showed, as they weighed a strong labor market and stubbornly high inflation against the risks that recent bank turmoil posed to the economy.

Central bankers have spent more than a year waging a battle against the most painful burst of price increases in decades, raising interest rates to slow the economy and to wrestle price increases under control. After lifting their main rate to nearly 5 percent over the past 12 months, policymakers are now contemplating when to stop those moves. But that choice has been complicated by recent high-profile bank blowups.

Before Silicon Valley Bank failed on March 10 and Signature Bank failed on March 12, sending jitters across the global banking system, Fed officials had been contemplating making several more rate moves in 2023 to bring stubbornly inflation back under control. “Some” had even thought a large half-point rate move might be appropriate at the March 21-22 gathering, the minutes from the meeting showed.

But officials adjusted their views after the shock to the banking system, the minutes released on Wednesday made clear. The Fed lifted rates at the March meeting, but only by a quarter point, and officials forecast just one more rate increase this year. Jerome H. Powell, the Fed chair, made it clear during his news conference after the meeting that whether and how much officials adjusted policy going forward would hinge on what happened both to credit conditions and to incoming economic data.

At the meeting, “several participants emphasized the need to retain flexibility and optionality in determining the appropriate stance of monetary policy given the highly uncertain economic outlook,” the minutes showed.

Officials on the policy-setting Federal Open Market Committee thought that “inflation remained much too high and that the labor market remained tight,” on one hand, but that they would also need to watch for signs that the bank issues had curbed bank lending and business and consumer confidence enough to meaningfully slow the economy.

They said it would be “particularly important” to watch data on credit and financial conditions, which signal how difficult and expensive it is to borrow or raise money, the minutes showed.

In the weeks since the meeting, early signs that lenders are becoming more cautious have begun to surface, but it is still too soon to tell exactly how much credit rates and availability will adjust in response to the turmoil.

Fed staff projected that the bank tumult would even spur a “mild” recession later this year. “Given their assessment of the potential economic effects of the recent banking-sector developments, the staff’s projection at the time of the March meeting included a mild recession starting later this year with a recovery over the subsequent two years,” the minutes showed.

At the same time, the latest data have suggested that inflation is slowing — though it remains abnormally rapid. A closely watched measure of consumer prices climbed by 5 percent in March, down from 6 percent the previous month, as cheaper gas and flat food prices brought relief to consumers. But after stripping out food and fuel costs to get a sense of underlying trends, so-called “core” inflation index actually ticked up slightly on an annual basis to 5.6 percent.

The current inflation rate is slower than the roughly 9 percent peak reached last summer, but it remains far faster than the rate that was normal before the pandemic and is still notably too quick for comfort. The Fed aims for 2 percent inflation on average over time, defining that goal using a separate inflation measure that is released at more of a delay.

Financial markets barely budged in the immediate aftermath of the minutes’ release. From stocks to bonds to the U.S. dollar, the earlier inflation data had proved more consequential, suggesting that the minutes presented few surprises that notably moved the needle for investors.

Fed officials on Wednesday — including Mary C. Daly, the president of the Federal Reserve Bank of San Francisco, and Thomas Barkin, president of the Federal Reserve Bank of Richmond — suggested the latest consumer price figures were encouraging but not decisive.

“It was pretty much as expected,” Mr. Barkin said on CNBC. Ms. Daly said during an event in Salt Lake City that the report was “good news,” but noted that inflation is still elevated.

The Fed’s next rate decision is set for release on May 3.

Joe Rennison contributed reporting from New York.

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