Why Powell and Yellen May Have Pulled Off the Impossible With the Economy

Over the past six years, Federal Reserve chairman Jerome Powell has had his fair share of critics. Donald Trump, who appointed Powell in 2018, called the Fed “crazy,” “loco,” and “out of control” after it raised interest rates that same year. In 2022, Powell got labeled “behind the curve” for having kept interest rates near zero in 2021 even as inflation was starting to rise. 

This year, he was lambasted for being behind the curve in the opposite direction, as the Fed kept rates steady in the face of what many thought was a weakening economy. And yet when Powell stood at the podium last month and announced that the Fed was cutting rates for the first time in four years, it was not the attacks on his record that came to mind, but rather the dexterous way in which he’s navigated the economy through the unprecedented macroeconomic turbulence of the past four years.  

The U.S. economy has, after all, emerged from the Covid pandemic in surprisingly good shape. While unemployment is slightly higher today than it was a year ago, it remains low at 4.1 percent. The prime-age employment rate is at a 23-year high. Real wages are up. Inflation is back under control. And productivity and output are growing briskly: GDP was up 3 percent in the second quarter, and revisions to economic data show the economy grew faster than previously thought from 2021 to 2023. 

The robust recovery has, in large part, been driven by the economy’s underlying strengths: healthy corporate profits, a strong job market, and substantial household savings left over from the pandemic. But it has been helped along by smart, cool-headed policymaking from Powell and Treasury Secretary Janet Yellen, who over the past year seem to have pulled off what most observers thought impossible: a fabled soft landing, bringing down inflation without tipping the economy into recession. 

Skeptics have a simple counterargument to any praise of Powell’s and Yellen’s recent performance: They’ve been solving a problem that they helped create. And it’s certainly true that the two of them were late to recognize the risk of inflation as the U.S. emerged from the pandemic. In an attempt to ensure that the economy didn’t get stuck in the kind of post-recession doldrums that the U.S. found itself in for years after the Great Recession of 2007 to 2009, the Biden administration went big on stimulus. It enacted the $1.9 trillion American Rescue Plan, even as inflationary pressures were already building in the economy.

Powell, for similar reasons, did not raise interest rates in response, choosing instead to let the economy run hot in order to ensure that the job market bounced back. The Fed actually kept interest rates near zero until March of 2022, even though inflation hit more than 6 percent in the fall of 2021, as Powell suggested that the inflation spike would be “temporary” or “transitory.” 

It wasn’t: Inflation was above 7 percent for almost of all of 2022, eroding real wages and purchasing power and, not coincidentally, making Americans miserable. By the middle of 2022, the University of Michigan’s Consumer Sentiment Index hit a 44-year low. Much of that was due to issues in the global economy that the Fed had little control over, including tangled supply chains and Russia’s invasion of Ukraine, which is why every developed country was hit by high inflation. But the combination of demand-boosting stimulus and the Fed keeping interest rates low obviously contributed to the problem. 

The legacy of that inflationary spike still shapes Americans’ view of the economy — which has remained surprisingly gloomy despite how robust the recovery has been. But the reality is that Powell responded to that spike in a decisive and cool-headed manner, and his and Yellen’s policies over the past couple of years have been complementary in the best sense. 

Once the Fed decided to act, it did so aggressively, raising rates seven times in 2022, bringing interest rates to levels not seen since the mid-2000s. That prompted anxieties that the Fed was going to kill the recovery, sending stock prices down and making recession predictions ubiquitous.

The economist Larry Summers, who had famously forecasted that the American Rescue Plan was going to lead to inflation, had also said that if inflation got out of control, there would be no way to bring it down without an extended stretch of high unemployment. And in the fall of 2022, most investors and economic forecasters agreed with him. Bloomberg Economics’ model said there was literally a 100 percent chance of a recession by October 2023, and CNBC summed up the consensus with a piece headlined “Why Everyone Thinks a Recession Is Coming in 2023.”

Powell, though, remained convinced that a soft landing was possible, so much so that rather than think about cutting rates, the Fed raised rates another four times in 2023. He recognized that the economy’s underlying fundamentals were strong enough for the economy to keep growing, and unemployment to keep falling, even while inflation tumbled as well. And that’s exactly what happened. 

In this, Powell was helped by what the Biden administration was doing on the fiscal front, guided by Yellen, including most notably signing the Inflation Reduction Act and the Chips Act. These bills were designed to, and did, incentivize business investment via tax credits and other provisions. That pumped investment into the economy even as the Fed was raising rates, creating something of a Goldilocks situation. And since these bills were mostly targeted at business investment, they’ve worked to increase supply, rather than spurring consumer demand, which arguably limited any inflationary impact they might have had. 

There were still bumps in the road, most obviously the banking mini crisis created when large regional banks Silicon Valley Bank and First Republic went under in spring 2023, in part because they had not prepared for interest rates to rise. But the striking thing about that panic is not that it happened, but rather how quickly it passed: The Fed and the FDIC agreed to backstop depositors, orchestrated the sale of the banks to larger institutions, and the sense of panic quickly dissipated. 

That’s been true more generally as well: Powell and Yellen have been able to block out the noise and make policy with a reassuring level of calmness and patience. This year, for instance, Powell faced increasing pressure to cut interest rates in order to stave off a potential recession, and when markets went topsy-turvy for a few days in August, there were loud calls for the Fed to make an emergency rate cut. But again, Powell refused to rush. Markets quickly bounced back, and only in September did the Fed begin cutting rates. 

Tellingly, when it did, the Fed cut rates by a full half-point. Some had worried that if the Fed cut by more than a quarter-point, it would spook the markets. But Powell framed the cut, sensibly and accurately, as a vote of confidence that inflation was under control, and that the Fed could now shift its attention to keeping the economy growing briskly. And markets responded accordingly.

This has not quieted Powell’s and Yellen’s critics, of course. Donald Trump (who called Fed policies “insane” in 2019 because Powell raised interest rates) is saying we have the “worst economy ever,” while J.D. Vance has begun calling the Inflation Reduction Act the “Inflation Explosion Act” (even though inflation started falling, perhaps coincidentally, as soon as it was enacted). Democratic candidates, too, are talking about how hard it is for people to get ahead. And even as inflation has cooled, Americans generally remain unhappy with how much higher prices are today than they were in 2019. 

What’s missing from these criticisms, though, is any recognition of what policymakers have accomplished, including above all the way Powell and Yellen put getting people back to work at the center of their policymaking agenda. While the Fed has a dual mandate of keeping prices low and employment high, historically it has always erred on the side of keeping prices low, even if that meant unemployment was higher than it needed to be. Powell shifted that calculus, and the result was that the U.S. economy returned to full employment much more quickly than most observers anticipated it would.

The result, according to Arin Dube, an economist at UMass Amherst, is that real wages for the estimated 80 percent of American workers who are in non-managerial jobs are now not only higher than before the pandemic, but are actually above the pre-pandemic trend. Low-income workers in particular have seen their wages jump — a study co-authored by Dube found that the increase in low-income wages dramatically reduced income inequality between the top and the bottom, reversing a four-decade-long trend. The various programs Yellen helped shepherd through Congress, meanwhile, have spurred a mini boom in American manufacturing. 

At a time when economic doomerism is in vogue among politicians and pundits, it can be difficult to acknowledge the strength of the U.S. economy. But the simple reality is that it is strong. Economic policymakers don’t usually take victory laps. But if they did, this would be a good time for Powell and Yellen to jog around the track.