The Fed has an important history lesson for panicked markets

The Fed, to the power of three.
The Fed, to the power of three.
Image: REUTERS/Christopher Aluka Berry
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The Federal Reserve is beginning 2019 with a trip down memory lane.

Severe volatility made 2018 a year to forget for investors. The year closed with US stock markets swinging wildly and ending in the red. The Dow’s 8.7% decline in December ranked as its fourth-worst since 1900, only beaten out by drops during World War I and the Great Depression. This year didn’t get off to a great start either.

Traders have a whole host of concerns about the outlook for the global economy. They are particularly worried about what the Federal Reserve is up to. Last year, the US central bank raised interest rates four times, which some believe was too much. More importantly, there are fears the Fed will keep raising rates in an economy doesn’t need it. More investors, and even some policy makers, are saying it’s time for the Fed to pause.

Chairman Jerome Powell tried to calm anxious markets by reminding the markets they might just hold off. Speaking at the annual meetings of the American Economic Association in Atlanta today (Jan. 4), Powell recalled a year that has gained some historical importance: 2016. Here’s what he said:

In December 2015, when we lifted off from the zero lower bound, the median FOMC participant expected four rate increases for 2016. But very early in the year in 2016, financial conditions tightened quite sharply and, under Janet [Yellen]’s leadership, the committee nimbly, and I would say flexibly, adjusted our expected rate path. We did eventually raise rates a full year later in December 2016. Meanwhile the economy weathered a soft patch in the first half of 2016 and then got back on track, and policy of normalization resumed. No one knows whether this year will be like 2016. But what I do know is that we will be prepared to adjust policy quickly and flexibly.

Translation: Whatever members of the Fed’s rate-setting committee might currently be forecasting (two rate hikes), it can all change in an instant. It can change “considerably,” Powell said. In 2016, expectations for four hikes amounted to just one.

He was keen to stress that the Fed is listening to the market’s worries, which are “way ahead of the data.” That’s because the data looking back on last year was mostly good. Earlier today, data from US Labor Department showed employers added 312,000 jobs in December, blowing well past expectations, and the unemployment rate was near the lowest level in half a century.

Sharing the stage with Powell were former Fed chairs Janet Yellen and Ben Bernanke, who both said that while last year was strong and the US economic expansion can continue, there will be a slowdown this year. “Expansions don’t die of old age,” said Bernanke. “I like to say they get murdered.” One of the usual culprits is the Fed, when the central bank raises interest rates to keep inflation in check.

For now, all three Fed chairs don’t see much danger of that. They also collectively agreed that one thing that would allow the Fed to act appropriately was independence.

Donald Trump has made vocal denouncements of Fed rate hikes and reports suggest that he’s even considering firing Powell, who he only recently appointed to the job. Powell had another message to convey, this one for Trump.

When asked if he would resign should the president ask, Powell responded with one word: “No.”