Key Takeaways:

  • Federal Reserve policy committee Vice Chair John Williams said Thursday that monetary policy is sufficiently calibrated to address inflation, economic growth, and other risk changes triggered by the war with Iran. That day, the United States imposed a blockade on oil and other cargo shipments through the Strait of Hormuz for the fourth consecutive day.
  • Williams said that despite the ongoing Middle East conflict, the U.S. economy could still grow by 2% to 2.5% this year. He expects expansionary fiscal policy, favorable financial conditions, and investment in artificial intelligence to offset the economic damage from higher energy prices and other uncertainties.
  • In his remarks, Williams noted that the war "brings significant risks and heightens uncertainty," but "the current stance of monetary policy is well positioned to balance the risks to our goals of maximum employment and price stability."

Deeper Analysis:

Since cutting its key interest rate to a range of 3.5% to 3.75% in December, the Federal Reserve has kept borrowing costs unchanged while weighing the conflicting risks of a softening labor market and accelerating inflation.

Since the U.S. and Israel launched strikes on Iran on February 28, surging energy prices have further complicated the central bank's policy dilemma. Global benchmark Brent crude futures have risen about 36% since then, from $73 to $99 per barrel.

Higher oil prices could push up inflation, weigh on economic growth, and raise unemployment, making it more challenging for the central bank to fulfill its congressionally mandated dual mission of maintaining price stability and maximum employment.

Williams, who also serves as president of the New York Fed, said the war is causing "significant disruptions in energy prices, which have already pushed up overall inflation."

Additionally, the conflict could lead to "large-scale supply shocks, whose significant effects would simultaneously push up inflation—through soaring intermediate costs and commodity prices—and dampen economic activity," he said.

"This is already beginning to show," Williams noted, as disruptions in energy and related commodity supplies are driving up prices for fertilizers, airfares, groceries, and other consumer goods.

According to data from the U.S. Bureau of Labor Statistics, the consumer price index (CPI), covering all categories, rose 0.9% month-over-month and 3.3% year-over-year last month, with the gasoline price index jumping 21.2%, contributing nearly 75% of the overall increase.

Meanwhile, core CPI, which excludes volatile food and energy prices, rose only 0.2% month-over-month in March and 2.6% year-over-year (compared to a 2.5% annual increase in February). The Fed aims to keep inflation at or below 2%.

Addressing the other side of the Fed's dual mandate, Williams pointed to "mixed signals" in the labor market.

He said that while labor supply and demand have become more balanced in recent months, some "data suggest the labor market is still gradually softening."

Williams said the relatively low hiring rate—characteristic of a "low-hiring, low-layoff" job market—"is not great if you are looking for a job or worried you might need to find one soon."

He also said that low levels of hiring and an increase in long-term unemployment "may make households' views of the labor market more pessimistic than other indicators suggest."

The war-induced surge in gasoline prices has this month pushed a measure of household confidence to its lowest level since records began in 1952. A University of Michigan survey showed the consumer sentiment index plunged 11% in April, with assessments of personal finances also falling 11% due to soaring prices and declining asset values.

Williams said the decline in job-finding success rates and other "labor market indicators warrant continued attention."