Powell’s testimony is a sideshow. Follow the data

Federal Reserve Chair Jerome Powell sent markets into retreat once again Tuesday with a warning to Congress that interest rates may be heading higher than previously thought. It’s important to remember that he could well change his mind — maybe as soon as this week.
Powell, of course, had the unenviable job of delivering remarks to US lawmakers amid a uniquely uncertain economic backdrop. In late 2022, it appeared that key parts of the economy were moderating in accordance with the Fed’s inflation-fighting goals, and consumer price increases seemed to be cooling. But then data from January suggested that the economy was reaccelerating, and progress on the inflation fight seemed to falter.

As Powell put it 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. 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.

Translation: The central bank is open to raising the fed funds target range by 50 basis points later this month to a range of 5% to 5.25% if necessary. Powell’s remarks pushed yields on two-year notes to a 15-year high and dragged the S&P 500 Index down 0.9% at the time of writing.

It’s easy to see why investors would read that paragraph as hawkish, but the operative word there is “if,” and it seems silly to speculate at this point. Investors will get more clarity on that matter in just three days with the release of new nonfarm payroll data, followed on Tuesday by an updated consumer price index.
Until then, there are innumerable reasons to question whether the Fed — or, indeed, the markets — truly understand what’s happening in the surprisingly strong employment, retail sales and inflation data to start the year. The numbers could reflect residual seasonality (inflation data is often, oddly, hot to start the year); looser financial conditions (which have since partially tightened again); and perhaps just general volatility in data (plummeting survey response rates have raised questions about the signal and noise in the month-to-month readings). As much as ever before, Powell and his colleagues are feeling their way around in the dark, and declarations from the data-dependent central bank should take a back seat to data releases themselves. (And, yes, even those come with a lot of asterisks.)