High inflation on the horizon, Fed eyes more rate hikes ahead
Last month, when Federal Reserve Chairman Jerome Powell spoke at an economic conference in Jackson Hole, Wyoming, he issued a blunt warning: The Fed’s campaign to curb inflation by aggressively raising interest rates, he said, would “bring some pain” to Americans.
When the Fed wraps up its latest meeting on Wednesday and Powell holds a news conference, Americans are likely to have a better idea of how much pain could be in store.
The central bank is expected to raise its key short-term rate by three-quarters of a point for the third time in a row . Another hike that big would push its benchmark rate, which affects many consumer and business loans, to a range of 3% to 3.25%, the highest level in 14 years.
However, many Fed watchers will pay close attention to Powell’s words at a subsequent press conference. His comments will be scrutinized for clues as to whether the Fed expects to moderate its rate hikes in coming months or instead continue to tighten credit significantly until it is convinced inflation is coming down.
In another sign of the Fed’s growing concern about inflation, it is also likely to signal on Wednesday that it plans to raise rates much higher by the end of the year than it had forecast three months ago, and keep them higher for longer. Economists expect Fed officials to forecast that its key rate could hit 4% before the new year. They are also likely to signal further increases in 2023, perhaps to about 4.5%.
Short-term rates at that level would make a recession more likely next year by dramatically increase the costs of mortgages, car loans, and business loans . The Fed intends those higher borrowing costs to slow growth by cooling down a still-robust job market to limit wage growth and other inflationary pressures. However, the risk is growing that the Fed will weaken the economy enough to cause a recession that would lead to huge job losses.
The economy has not seen rates as high as the Fed projects since before the 2008 financial crisis. Last week, the average fixed mortgage rate exceeded 6% , its highest point in 14 years. Credit card borrowing costs have reached their highest level since 1996, according to Bankrate.com.
Powell and other Fed officials still say the Fed’s goal is to achieve a “soft landing,” whereby they would slow the economy enough to control inflation, but not enough to trigger a recession.
Last week, however, that target seemed further out of reach after the government reported that inflation during the last year it was a painful 8.3% . Worse yet, so-called core prices, which exclude volatile food and energy costs, rose much faster than expected.
The inflation report also documented how widely inflation has spread through the economy, complicating the Fed’s task. be increasingly driven by higher wages and consumers’ constant desire to spend, and less because of the supply shortages that had plagued the economy during the pandemic recession.
“They’re going to try to avoid recession,” said William Dudley, former president of the Federal Reserve Bank of New York. “The problem is that the space to do that is practically non-existent right now.”
The Fed’s rapid rate hikes mirror steps other major central banks are taking, adding to concerns about a potential global recession. The European Central Bank last week raised its benchmark rate by three-quarters of a percentage point. The Bank of England, the Reserve Bank of Australia and the Bank of Canada have all carried out large rate hikes in recent weeks.
And in China, the world’s second-largest economy, growth is already taking a hit from repeated government COVID lockdowns. If the recession wipes out most of the big economies, that could also derail the US economy.
In his press conference on Wednesday, Powell is not likely to imply that the central bank will ease its credit tightening campaign. Most economists expect the Fed to stop raising rates by early 2023. But for now, they expect Powell to reinforce his hardline anti-inflation stance.
“It’s going to end up being a hard landing,” said Kathy Bostjancic, an economist at Oxford Economics.
“He’s not going to say that,” Bostjancic said. But, referring to the most recent Fed meeting in July, when Powell raised hopes of an eventual pullback on rate hikes, he added: “He also wants to make sure the markets don’t go out and rally. That’s what happened last time.”
Indeed, investors responded by raising stock prices and buying bonds, driving down rates on securities like the benchmark 10-year Treasury. Higher stock prices and lower bond yields generally boost the economy, the opposite of what the Fed wants.
The central bank has already engaged in the fastest series of rate hikes since the early 1980s. Yet some economists, and some Fed officials, argue that they have yet to raise rates to a level that would actually restrain borrowing and spending and slow growth.
Loretta Mester, president of the Federal Reserve Bank of Cleveland and one of 12 officials who will vote on the Fed’s decision on Wednesday, said she believes it will be necessary to raise the Fed rate to “something above 4% at early next year and keep it.” over there.”
“I don’t anticipate the Fed cutting” rates next year, Mester added, dispelling the expectations of many investors on Wall Street who had expected such a reversal. Comments like Mester’s contributed to a sharp drop in stock prices last month that began after Powell’s scathing anti-inflation speech at the Jackson Hole conference.
“Our responsibility to provide price stability is unconditional,” Powell said at the time, a comment widely interpreted to mean that the Fed will fight inflation even if it requires huge job losses and a recession.
Many economists seem convinced that a recession and widespread layoffs will be necessary to curb rising prices. The investigation published earlier this month under the auspices of the Brookings Institution concluded that unemployment could reach 7.5% for inflation to return to the Fed’s 2% target.
Only such a harsh recession would slow wage growth and consumer spending enough to cool inflation, according to a paper by Johns Hopkins University economist Laurence Ball and two International Monetary Fund economists.