Powell Remarks: More Dovish, Balance Sheet Included

In his remarks this morning, Powell gave the market what it wanted to hear (video link). He emphasized, as in his December press conference, that the U.S. economy was strong in 2018, citing the December employment report released earlier this morning as further evidence of this (our note here). What was different was that, whereas at his December press conference he emphasized how little-changed and strong the outlook was, appearing somewhat dismissive of market concerns, today he emphasized the FOMC’s ability to be patient with respect to tightening as it assesses these downside risks. He suggested that the FOMC is willing to reconsider and change policy, abruptly if necessary. He also departed clearly from his previous remarks on balance sheet policy, expressing openness to adjust the normalization plans rather than repeating that the  FOMC sees no reason to take those plans off autopilot. 

Powell made a distinction between market concerns and the incoming U.S. economic data. While he  emphasized global risks a bit more, citing recent negative news with respect to growth abroad and corporate  earnings, he said that policymakers see “good data still,” at least for the U.S. Muted price inflation and limited  passthrough from wages afford the FOMC the patience to wait and see: “Average hourly earnings moved up  and that’s quite welcome and also for me at this time does not raise concerns about too-high inflation.”  Though the sharp decline in the ISM in December was “worth keeping an eye on,” he noted that the December level still represented expansion in the manufacturing sector and followed a period of very high readings. 

But these data are “looking in the rearview mirror,” and financial markets are “sending different signals.” He  noted that “The markets are pricing in downside risks…and they are obviously well ahead of the data,  particularly if you look at this morning’s labor market data.” Markets are concerned about “downside risks,  about slowing global growth, particularly related to China, about ongoing trade negotiations, about what  may be let’s call general policy uncertainty coming out of Washington, among other factors.” Again and again  he stressed the FOMC’s ability to be patient and listen to markets as well as the data, particularly with  “muted” inflation: 

▪ “When we get conflicting signals, as is not infrequently the case, policy is very much about risk  management.” 

▪ “I’ll just say that we are listening carefully to that…listening sensitively to the message that markets  are sending and we are going to be taking those downside risks into account as we make policy going  forward.” 

▪ “There is no preset path for policy, and particularly with the muted inflation readings that we’ve seen  coming in, we will be patient as we watch to see how the economy evolves.” 

▪ “We are always prepared to shift the stance of policy and to shift it significantly.” ▪ “We will be prepared to adjust policy quickly and flexibly and to use all of our tools to support the  economy should that be appropriate.” 

The FOMC is adopting a wait-and-see attitude, and Powell’s remarks today suggest less urgency to hike in  March. For our part, we now see a March hike as a bit less likely, though we continue to expect some  

tightening in the first half. We continue to see the market as underestimating the likelihood of tightening in the first half and the probability of a March hike in particular. Part of this discrepancy appears to be attributable to the market assigning a much greater likelihood to extreme adverse scenarios, reflected in the pricing-in of the possibility of a rate cut in March. 

The biggest specific innovation in Powell’s stance was increased openness to adjusting balance sheet runoff  (in contrast to his December press conference, when he firmly adhered to the notion that it was on autopilot  “I don’t see us changing that”). While he stressed that he didn’t see runoff as the primary cause of market  volatility, he said that “if we reach a different conclusion, we wouldn’t hesitate to make a change.” He did not signal any adjustment was imminent, however. 

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