Fed’s Powell: Interest-rate hike may come soon, but weak productivity will cap

Slower productivity growth may keep interest rates below where they stood before the Great Recession even after inflation returns to its target, a top Federal Reserve official said Thursday.

The comments from Fed. Gov. Jerome Powell, to the Peterson Institute for International Economics, come as the interest-rate debate has heated up in recent weeks. Powell did nothing to curb expectations of a rate increase this summer.

“If incoming data continue to support those expectations, I would see it as appropriate to continue to gradually raise the federal-funds rate. Depending on the incoming data and the evolving risks, another rate increase may be appropriate fairly soon,” Powell said.

He said it would be important to see a strengthening of growth in the second quarter along with “strong” job growth, further reductions in the unemployment rate and other measures of slack, and increases in wages.

Powell devoted much of his speech to longer-term economic trends. He discussed recent weak productivity numbers, which he blamed both on a weak recovery in demand as well as a lack of technological innovation. He said a low labor supply also has held back potential output, but recent data on that front is more encouraging.

He said estimates of long-run potential growth have dropped from about 3% to 2% since the crisis.

“Lower potential output growth would mean that interest rates will remain below their precrisis levels even after the output gap is fully closed and inflation returns to 2%,” said Powell.

Powell said recent evidence is that the recession has left behind lasting damage. He said analysis suggests that a third of the time, there’s no permanent supply-side damage; a third of the time, there’s a reduction in the level of potential output but not the growth rate; and a third of the time, there’s a reduction in both the level of output and the growth rate.

“Unfortunately, recent experience suggests that the United States is at risk of falling in the last category,” he said.

 

Source: MarketWatch

 

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