United States Federal Reserve System symbol

Chairman Jerome Powell said Tuesday that the Federal Reserve is prepared to respond to the Trump administration’s trade conflicts to protect the U.S. economy, signalling that the Fed will cut interest rates if necessary.

Powell’s comments gave a lift to stock markets, with the Dow Jones industrial average up over 400 points at midday.

Speaking at a Fed conference in Chicago, Powell said, “We are closely monitoring the implications of these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the expansion.”

Powell didn’t explicitly say what the Fed would do if it concluded that the administration’s trade conflicts were damaging the economy. But expectations are rising that the Fed will cut rates at least once and possibly twice before year’s end, in part because of the consequences of the trade war. There is also concern that the U.S. economy faces a growing risk of a recession.

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Trump has imposed far-reaching tariffs on imports on China, which has retaliated with tariffs of its own on U.S. exports. He has also threatened to impose an escalating series of tariffs against Mexico unless Mexico stops a flow of migrants from Central America into the U.S. At a news conference in London, President Donald Trump reiterated that his import taxes on goods from Mexico will start taking effect next week at a level of 5%, rising to a peak of 25% until Mexico complies with his demand to cut off Central America migration.

Powell noted that the Fed is conducting its first-ever public review of its operations and will focus on ways to improve its rate strategies, the tools it uses to achieve its objectives and the way it communicates its actions to the public.

He called persistently low inflation the “pre-eminent monetary policy challenge of our time,” because it limits the Fed’s ability to support the economy by cutting rates.

The current expansion next month will become the longest period of uninterrupted growth in U.S. history, surpassing the 10-year expansion of the 1990s.

The Fed manages interest rates to achieve two goals, maximum employment and low inflation. While unemployment has fallen to a 50-year low of 3.6%, inflation has failed to rise to the Fed’s target of 2%. The Fed sees that target as the optimal level for annual price increases and worries if the price gains go too far above 2% or fall below that level.

But the Fed’s efforts to achieve the 2% target have so far failed despite the fact that it kept its key policy rate at a record low near zero for seven years. It began gradually increasing its policy rate in December 2015.

After raising rates nine times, including four hikes last year, it declared in January that it would be “patient” in raising rates further. Most analysts believe that it will keep rates unchanged for the rest of the year. Some investors are even beginning to bet that the next move will be a rate cut later this year.

The policy rate at the moment is in a range of 2.25% to 2.5%, meaning that the Fed has less room to cut rates to stimulate growth.

What the central bank can do to manage the economy when inflation is so low and interest rates have little manoeuvring room will be a key discussion topic at the two-day conference, which features the presentation of a number of academic papers.

“Our obligation to the public we serve is to take those measures now that will put us in the best position to deal with our next encounter with the ELB,” Powell said, referring to the effective lower bound for interest rates.

“With the economy growing, unemployment low and inflation low and stable, this is the right time to engage the public broadly on these topics,” Powell said.

In addition to the Chicago conference, the Fed is holding a number of listening sessions around the country to get input from the public.

Powell said that after this outreach, Fed officials will begin using their regular meetings to discuss possible changes. Private economists believe that the yearlong review is likely to result in only modest changes to current Fed policies.