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Federal Reserve Chairman Jerome Powell spoke to a Senate committee on Tuesday, stating that the while the US economy is currently in a strong position, there may be trouble ahead adding that the Fed is prepared to adjust policy as necessary.

Key Takeaways

• The Fed Chairman affirmed previous statements in which he indicated that the Fed would be patient with rate hikes and cautious with monetary policy in general.
• He made reference to economic “crosscurrents and conflicting signals” which were cause for concern when monitoring the health of the US economy.
• Powell stated that the Fed would adjust balance-sheet runoff policy as necessary, changing his tune from earlier statements describing the policy as being on autopilot.

Fed Chairman Jerome Powell signaled a change in the Fed’s approach to balance sheet runoff in front of a Senate committee earlier today. After describing the Fed’s balance sheet runoff policy as being on “autopilot” in December,  a statement which worried many investors and analysts, the situation has seemingly changed with Powell indicating that the policy is malleable.

“I would note that we are prepared to adjust any of the details for completing balance sheet normalization in light of economic and financial developments. In the longer run, the size of the balance sheet will be determined by the demand for Federal Reserve liabilities such as currency and bank reserves,” he said.

Balance Sheet Under Control

Consisting for the most part of Treasuries and mortgage-backed securities, the balance sheet rose to $4.5 trillion as the Fed bought more and more assets to lower long-term interest rates and stimulate positive economic growth. Since the beginning of the reduction process the balance sheet has been reduced to $4 trillion with $50 billion a month in proceeds being allowed to mature and “roll off” without being replaced with new bonds or securities.

With such a large figure rolling off every month, investors have been concerned of ripple effects throughout the US economy creating unwanted or unpredictable activity, particularly with the weakness seen in the US and global economies in recent months. However, the market will likely be reassured to some extent following the statements from Fed officials now saying that the central bank is prepared to halt or adjust the roll-off process in light of unstable market conditions.

Fed Chair Powell on effect of trade conflict on US economy: "uncertainty is the enemy of business"

— John Harwood (@JohnJHarwood) February 26, 2019

Economic Difficulty Ahead?

Powell stated that the economy is currently healthy but that the Fed is being vigilant nonetheless in light of concerning economic indicators of future economic performance. Speaking to the Senate Committee on Banking, Housing and Urban Affairs in a semiannual testimony regarding monetary policy, Powell assured committee members that Fed officials were watching for any sign that policy needed to be adjusted and would act accordingly.

“While we view current economic conditions as healthy and the economic outlook as favorable, over the past few months we have seen some crosscurrents and conflicting signals. Financial markets became more volatile toward year-end, and financial conditions are now less supportive of growth than they were earlier last year.”

Other possible factors that could lead to downward pressure on the US economy include the trade war playing out between the US and China as well as the general economic slowdown taking place throughout the Eurozone and the uncertainty surrounding Brexit as well as its potential negative impact on multiple national and regional economies.

 “We will carefully monitor these issues as they evolve,” Powell said.

Dovish Trend in Fed Statements

Powell’s statements are the latest in a series of dovish remarks from Federal Reserve officials indicating that the central bank will be taking precautions to avoid creating austere conditions during the course of its mission to cultivate a healthy labor market and control inflation, including recent statements indicating that the balance sheet reduction is not the top priority in terms of policy. It seems increasingly likely that there are no rate hikes coming up in the near future after multiple Fed statements were made recently to support that view.

Powell also stated that the current level of inflation, which is below the Fed target of 2%, is unsustainable, as is the weakness seen in the manufacturing industry and the level of public debt, while adding that wage growth and labor force participation has seen positive activity recently.

Market Reaction

Gold has ticked slightly upward following the relatively dovish statements made by Fed Chairman Jerome Powell today, but is still down -0.15% and trading at $1,327.14/oz in the middle of the range with a high of $1,330.10/oz and a low of $1,323.77/oz. The market had perhaps hoped for more overtly dovish remarks regarding interest rates, but overall the statements made by Powell should help assuage some of the recent concerns regarding central bank monetary policy.