Top central bankers expect more rate hikes amid stubborn inflation

Central bankers of the world’s leading economies said on Wednesday that while they had raised interest rates significantly, additional hikes would most likely be needed to bring inflation back under control given the strength of labor markets.

“While the policy is restrictive, it may not be restrictive enough and has not been restrictive long enough,” said Federal Reserve Chairman Jerome H. Powell.

Speaking at the European Central Bank’s 10th Annual Conference in Sintra, Portugal, Mr. Powell said the strong labor market was “pulling up the economy” and was a key reason Fed officials predicted two more rate hikes this year.

As U.S. workers get promotions and earn higher wages, this helps stimulate demand, allowing the economy to grow and giving companies the ability to keep raising prices.

This month, the Fed broke a 10-meeting string of rate hikes by holding them steady at a range of 5 percent to 5.25 percent. But mr. Powell said Wednesday that the decision was not a signal about the frequency of future moves. Skipping June may not mean that the new normal is to raise rates every other meeting.

“All we decided was not to raise rates at the June meeting,” said Mr. Powell. “I wouldn’t take moving at all off the table at successive meetings.”

On the same panel, Christine Lagarde, the president of the European Central Bank, and Andrew Bailey, the governor of the Bank of England, said tight labor markets in their economies also drove up wages and increased inflationary pressures.

“We still have ground to cover,” Ms Lagarde said, reiterating that the ECB, which raised rates by a quarter point in June, was likely to raise rates again in July.

Central bankers from around the world, from Canada to South Africa, gathered in Sintra to discuss monetary policy at a time of global inflation. While inflation has moderated somewhat in major economies such as the United States and Europe, policymakers spent much time at the meeting discussing the risk they face in declaring victory too early, as there is great uncertainty about some of the factors driving inflation, from opacity in the energy market to questions about how companies will react to rising labor costs.

After a year or more of aggressive rate hikes in the United States, Britain and European countries using the euro, central bankers’ actions have diverged quite widely over the past month. The Fed held interest rates steady, the European Central Bank raised rates by a quarter point and signaled more to come, and the Bank of England unexpectedly raised rates by half a percentage point.

The Bank of Japan has been an outlier, maintaining a very accommodative monetary policy, even as inflation in that country has risen to its highest level in four decades.

Kazuo Ueda, the governor of the Bank of Japan, began his term as governor in April. Speaking at the panel, Mr. Ueda said that while headline inflation was above 3 percent, Japanese officials believe underlying inflation measures were still slightly below the 2 percent target. “That’s why we’re keeping the policy unchanged,” he said.

Headline inflation has fallen in Europe and the United States this year, but this has given policymakers only limited reassurance. They all share the same challenge: how to get inflation to the 2 percent target amid signs that domestic inflationary pressures from services wage growth remain strong.

In the United States, in the labor-intensive service industries, such as hotels, restaurants, financial services, Mr. Powell “we don’t see much progress there yet” on inflation. Civil servants “should see more easing of labor market conditions,” he added. He does not expect core inflation to fall to 2 percent until 2025.

Mr Powell stressed that as of their June meeting, many officials expected “two or more” additional rate hikes in 2023.

In the Eurozone, Ms Lagarde said on Wednesday: “We don’t see enough tangible evidence that underlying inflation, particularly in domestic prices, is stabilizing and declining.” And so policymakers want to make sure they keep interest rates restrictive long enough to make sure inflation falls.

In Britain “it’s the crux – that’s the problem,” said Mr. Bailey. It was “much stickier,” he added, because the job market was tight, in part because the labor force is still smaller than it was before the pandemic.

Mr Bailey said investors expected the bank to raise rates a few more times, but without rejecting or accepting those predictions, he simply said: “We’ll see.”

Measures of core inflation, excluding food and energy, and measures of services inflation, which are heavily influenced by corporate wage costs, are still uncomfortably high. In Britain, core inflation rose to 7.1 percent last month, while it stood at 5.3 percent in both the United States and the eurozone.

“Despite all the differences between them,” says Frederik Ducrozet, head of macroeconomic research at Pictet Wealth Management, “they share a common view that they are preparing for the next phase of the inflation process,” where headline inflation is going down but the core is not so much.

Policymakers are also closely monitoring how quickly the effects of higher interest rates feed through to their economies, a way of determining how effective monetary policy has been. In Britain, a shift from variable to fixed-term mortgages has slowed monetary policy transmission, said Mr. Bailey. “History will not be a good guide,” he added. A similar, but less uniform, shift has also taken place in the eurozone, Ms Lagarde said.

Recently, the Bank for International Settlements warned that even if inflation falls, “the last mile may prove harder to travel.”

Inflation could prove more persistent than expected as workers demand higher wages to make up for the loss of purchasing power over the past two years. But companies could choose to pass on those additional labor costs to customers. “In this scenario, inflation could remain uncomfortably high,” the bank’s report said. It was a concern Ms Lagarde reiterated on Tuesday.

Mr. Powell and Ms. Lagarde both said it is possible they could eradicate inflation without triggering recessions, even though analysts increasingly expect their efforts to lead to a recession.

“Our baseline does not account for a recession,” Ms Lagarde said. “But it’s part of the risk that’s out there.”

Jeanna Smilek reporting contributed.