By Geoffrey Smith
Investing.com -- U.S. interest rates will probably have to rise further than the Federal Reserve previously thought in order to tame inflation, Fed Chair Jerome Powell said on Tuesday.
"The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated," Powell said in prepared remarks to the Senate Banking Committee at the start of his half yearly testimony to Congress.
Moreover, Powell said the Fed may revert to larger rate hikes again. That would be a sharp reversal of its actions over the last two meetings when it trimmed the size of its rate hikes from 75 basis points to 50, then 25.
"If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes," Powell said. He added that policy will need to stay restrictive "for some time" and that "the historical record cautions strongly against prematurely loosening policy."
Powell was making his comments after a sequence of U.S. economic data - both from the labor market and on inflation - came in stronger than expected for January. While analysts have pointed to strong seasonal effects that may have flattered the overall numbers, the pattern has unsettled markets, which have pushed their expectations for the 'terminal' fed funds rate in the current cycle up to 5.5% over the last couple of weeks.
Despite raising the possibility of a 50-basis-point hike at the Fed's next meeting on March 16, Powell still allowed the central bank plenty of room to maneuver, stressing that the central bank will "continue to make our decisions meeting by meeting, taking into account the totality of incoming data and their implications for the outlook for economic activity and inflation."
The dollar rose on the news, as market participants took Powell's comments as an invitation to speculate on a 50-basis-point hike next week. Short-dated bond yields also rose, but the yields on 10-year and 30-year bonds fell, reflecting the longer-term implications of what would be a move back to aggressive policy tightening.
Even so, the dollar index, which tracks the greenback against a basket of advanced economy currencies, struggled to make any important new highs. By 10:30 ET (15:30 GMT), it was up 0.7% at 105.03. The yield on the benchmark 2-year Treasury was up 6 basis points at 4.96%, the highest it's been since 2007. However, the 10-year yield traded down 1 basis point to 3.98%. Traditionally, an 'inversion' of the yield curve, in which long-term yields trade below short-term ones, is seen as heralding a recession.
Stocks sold off, however. The S&P 500 fell 0.6%, while the Dow Jones Industrial Average fell 0.5% and the NASDAQ Composite fell 0.4%.