To the Federal Reserve, Job Creation Is Job One

Federal Reserve Chairman Jerome ("Jay") Powell didn't waste much time getting to the point at last week's press conference. "My colleagues and I have one overarching goal: to sustain the economic expansion, with a strong job market and stable prices, for the benefit of the American people," he said.

It was a statement purged of ambiguity, with the Fed deciding not to raise interest rates or tighten credit — steps that had previously seemed possible. Job creation, it seems, is job one.

No doubt, Donald Trump is pleased. For months, the president has harshly criticized Powell and the Fed for raising interest rates. To Trump, the higher rates jeopardize the economy's expansion. Under Powell, who became chairman in early 2018, the Fed has increased its federal funds rate four times. Until now, the increases generally extended policies begun by Powell's predecessors, Janet Yellen and Ben Bernanke.

Did Powell cave to Trump? At the press conference, Powell repeatedly denied it, asserting that the Fed makes policy based on its best professional judgment and doesn't consider politics. Still, appearances being what they are, there is now a convenient convergence of views between the president and the Fed.

It will also be harder for the Fed to pull away from Trump, especially because Powell suggested that its policies shouldn't hastily be changed. "We believe we can best support the economy by being patient in evaluating the outlook before making any future adjustment to policy," he said.

The Fed routinely focuses on three objectives: sustaining economic growth and job creation; fostering stable prices (that is, containing inflation); and policing financial markets to prevent a crisis.

The trouble is that these goals sometimes collide. If the economy grows too fast, it may create inflation. Or if interest rates stay too low for too long, cheap credit may cause financial bubbles. The Fed's latest actions favor economic growth and job creation on the assumption that the dangers of higher inflation and financial instability have receded.

To be fair, many economists had shifted their views in recent months, voicing fears that the nearly-decade-long expansion was faltering. Powell mentioned some adverse developments: slower growth in Europe and China; the partial shutdown of the U.S. government; Brexit — whether or how the United Kingdom will leave the European Union; and trade negotiations between the United States and some trading partners, especially China.

Powell cited all of these in justifying the unanimous decisions of the Federal Open Market Committee, the Fed's most powerful body. He also noted that inflation has remained close to the Fed's target of 2% and that indicators of "financial risk" had declined.

Specifically, the Fed did two things to signal its policy change. First, it did not raise the fed funds rate from its present range of 2.25% to 2.5%. Second, it hinted that it would curtail future bond sales; this presumably would relax pressures for higher interest rates. Though the technical details are daunting, the central point is straightforward. The Fed eases credit conditions when it wants to spur the economy and tightens them when it wants to slow down the economy.

(After the 2008-09 financial crisis, the Fed bought bonds. This policy — known as quantitative easing or QE — injected money into the economy. By selling some of these bonds now, the Fed reverses this process. It drains money from the economy and increases pressure for higher rates. If these sales were suspended or stopped, it would halt the drain. Economists refer to these issues as regulating the Fed's "balance sheet.")

All in all, Powell has aligned the Fed with those who fear that an economic slowdown or recession would prematurely end the recovery from the severe Great Recession. By this reasoning — and despite a 4% unemployment rate — there are still many potential workers without jobs and many workers with jobs that pay low wages.

It would be a mistake, in this view, to miss an opportunity to rebuild the finances and confidence of millions of households, especially when inflation seems well behaved. Still, this is a gamble. Its success depends heavily on the Fed's ability to foresee the future, even though economists — at the Fed and elsewhere — have often been surprised by the economy's behavior.

Powell recognizes this, warning (as did Bernanke and Yellen) that Fed policies will ultimately be "data dependent," meaning that they are what they are — until they aren't.