December 4, 2022

The latest increase by the Federal Reserve comes after more recent consumer price inflation data turned warmer than expected.

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The Federal Reserve on Wednesday decided to hike interest rates by 0.75 percent and indicated rates could be higher than investors expected as the central bank grapples with decades of high inflation.

The latest increase brings the Fed’s core policy rate to a range of 3%-3.25%, the highest since the beginning of 2008. It comes after more than expected recent consumer price inflation data surprised some analysts and showed inflation has become sticky, widespread, and the result of stronger demand than supply problems. Leading up to the August CPI report earlier this month, many on Wall Street expected the Fed to slow its pace in September, raising rates by half a point.

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More important than the latest rate hike is the message the Fed has sent about where rates are going. The bank released an updated summary of its economic projections, or SEP, a quarterly report indicating where officials look to interest rates, inflation, unemployment and GDP by 2025. A so-called dot chart within the document shows that most officials see rates rising above 4.5% next year, with six of them projecting a terminal rate of 4.9%. Going into the meeting, markets expected rates to fall to 4.5% in March before falling to 4% at the end of 2023. Most officials expect a policy rate of 3.9% or less by December 2024.

Taken together, the new points indicate that the Fed has been bullish since June and that it intends to leave rates relatively higher for longer than strategists and investors expected. They point to a further 1.25 percentage point increase in the rate this year, which means another 0.75 point increase is likely in November, followed by a half-point increase in December.

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“My main message hasn’t changed at all since Jackson Hole,” Fed Chairman Jerome Powell said during his press conference, referring to a short speech he made in August that had given investors an earlier public appearance. than impressed with his certainly more flamboyant tone. “We will need a period of growth below the trend and some softening in the labor market,” Powell said, adding, “We just moved to the lowest level that could be restrictive. There is a way to go.”

Still, the new terminal rate forecast falls short of some economists’ expectations. Matthew Luzzetti, chief US economist at Deutsche Bank, says rates will need to hit 5% before the Fed can start cutting.

Along with projections of prolonged high interest rates came updated, disappointing economic forecasts. Officials raised their projections for the unemployment rate to 4.4% for 2023 and 2024, up from earlier estimates of 3.9% and 4.1%, respectively. An unemployment rate of 4.4% translates to an increase of about 1.2 million people from current levels, notes Omair Sharif of Inflation Insights.

“Short-term costs through high unemployment rates, which are certainly meaningful to those who lose their jobs, are necessary to bring down inflation so that the economy can reap the long-term benefits of price stability,” Powell said. Told.

As Piper Sandler head of global policy Roberto Perli said, the new unemployment estimates are a giveaway to the Fed that thinks a recession is coming. Perly notes that there has never been a situation where the unemployment rate has risen by more than half a percent without a recession.

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Still, officials continue to forecast economic growth in 2023 and 2024 that is only slightly weaker than their previous forecast. This conflicts with Powell’s message and the reality of rising unemployment, and is a tacit indication that officials still believe a so-called soft landing is possible despite more aggressive policy tightening.

Some economists say the Fed’s forecasts are still very good. RSM Chief Economist Joseph Brusuelas recently told baron’s That their modeling suggests that inflation would need to rise to at least 6% for the Fed to return to its 2% target. Powell reiterated the Fed’s commitment to a long-standing inflation target on Wednesday, pushing back rising hopes that the bank would raise its inflation target to 3% in an effort to limit unemployment and because some factors behind rising prices. Not sensitive to interest rates.

The Fed’s new inflation forecasts show officials expect the personal consumption spending index to end the year at a 5.4% annual rate, down from the current 6.3%. They see the rate fall to 2.8% next year and 2.3% in 2024, reflecting only a small upward revision in forecasts for the previous quarter.

Write to Lisa Beilfuss at [email protected]