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Wall Street takes a bath as Fed chairman keeps the burners on high

Indices fell precipitously on Friday after hawkish comments from the central bank’s chair did nothing to assuage fears of continuing rate hikes.

MANHATTAN (CN) — The hawkish tone from the Federal Reserve showed no sign of tempering as stock markets plunged on Friday, eating further into the last month’s gains.

Investors have been hoping for a reprieve from the new and improved Federal Reserve, which has taken a hard line on interest rates after botching its reaction to inflationary pressures last year.

At best, however, the speech given by Fed Chair Jerome Powell on Friday at the Jackson Hole symposium hosted by the Federal Reserve Bank of Kansas City postponed such hopes. At worst, it dashed them.

Powell warned investors during the speech that the central bank’s actions to bring down inflation “will also bring some pain to household and businesses." Meanwhile the chairman underscored the Fed’s new mission: an “unconditional” quest to restore price stability at all costs.

“Restoring price stability will take some time and requires using our tools forcefully to bring demand and supply into better balance,” Powell said. “Reducing inflation is likely to require a sustained period of below-trend growth. Moreover, there will very likely be some softening of labor market conditions.”

The Fed has raised the interest rate for the federal funds rate four times so far this year by a total of 2.25 points, and it is likely it will do so again by at least 50 basis points at its next meeting later next month. The central bank also has been easing the amount of bond purchases on its balance sheets, which has caused Wall Street additional pressure.

“The U.S. economy is clearly slowing from the historically high growth rates of 2021, which reflected the reopening of the economy following the pandemic recession,” Powell said, adding the strong labor market “is clearly out of balance” and that the Fed “must keep at it until the job is done.”

By the time Powell had finished his speech, the Dow had fallen a few hundred points. By the closing bell on Friday, the index fell 1,008 points for the day, with the S&P 500 and Nasdaq shedding 170 points and 564 points, each. Compounded with a big drop on Monday, each of the indices are down significantly since last Friday: the Dow by 1,424 points, the S&P by 141 points, and the Nasdaq by 497 points.

“In essence, Powell is clearly stating that right now, fighting inflation is more important than supporting growth,” said Jeffrey Roach, chief economist at LPL Financial. “One glimmer of hope from the Chair’s comments is his view that inflation expectations appear well-anchored.”

Similar hawkish sentiment from the European Central Bank, which experts say could raise interest rates by 75 basis points in two weeks, caused European markets to slide on Friday. Germany’s Dax fell 300 points, while the FTSE MIB in Italy fell nearly 2.5% while the pan-European Stoxx 600 dropped 1.7%.

The rest of the week was fairly quiet, as the dog days of August have taken over Wall Street, but that doesn’t mean there weren’t some data points for analysts to pick apart.

A slightly better consumer sentiment reading from the University of Michigan for August was not enough to temper investors’ bearish sentiment on Friday. The university’s index gained nearly 7 points from July’s reading. Also, households’ year-ahead inflation expectations fell to 4.8%, the lowest it has been since December 2021.

“With gas prices waning and inflation slowing, consumers felt some welcome relief this month,” the survey’s chief economist Joanne Hsu said in a statement. “Hopefully this recent improvement continues, as sentiment remains close to the all-time historic low reached in June. There is a long way to go before consumers feel truly confident about the state of their personal finances and their outlook for the economy.”

It also appears that gross domestic product during the second quarter was not as bad as originally thought. According to the final reading by the Bureau of Economic Analysis, real GDP fell by 0.6% in the second quarter compared with the original 0.9% decrease reported by the agency. Coupled with the 1.6% GDP decline in the first quarter, however, it still marks two consecutive quarters of economic contraction.

The new data — as well as recent falling unemployment claims, which now however around 243,000 per week — gives analysts reason to believe the U.S. economy technically was not in a recession but that recessionary risks remain.

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