– Powell Stresses Fed Commitment Tt Lower Inflation Despite Slower Pace …….
– Officials Raise 2023 Funds Rate Projection to Median 5.1%, Up From 4.6%
– Officials Also Revise Up Inflation, Unemployment Forecasts; Revise GDP Growth Down
By Steven K. Beckner
(MaceNews) – The Federal Reserve closed out an eventful year with a seventh straight interest rate hike Wednesday, culminating 425 basis points of monetary tightening since the Fed left the zero lower bound in March.
The central bank decelerated the pace of short-term rate hikes, as expected, but Fed officials revised their projections for the federal funds rate significantly higher.
And Chair Jerome Powell emphasized that the slower pace does not signify any kind of retreat from the Fed’s battle against inflation. He and his fellow policymakers strongly signaled rates will continue to rise to higher levels than previously projected and stay at those higher levels longer than once anticipated.
In sharp contrast to a Nov. 30 speech, Powell did not say he wants to avoid “over-tightening.”
While saying a slower pace of rate hikes has become “appropriate” after a series of “forceful” monetary tightening steps, Powell made clear an easing of policy is not in the cards next year and will not be considered until he and his fellow policymakers are “confident” that inflation is headed down to their 2% target.
After four straight 75 basis point increases in the funds rate, the Fed’s rate-setting Federal Open Market Committee voted unanimously to increase the Fed’s policy rate just 50 basis points to a target range of 4.25% to 4.50% — “still a historically large increase,” as Powell noted.
And in its policy statement, the FOMC reiterated that “ongoing increases” are likely to be needed to lift the funds rate to a level “sufficiently restrictive” to reduce inflation to the Fed’s 2% target.
The FOMC did not specify what that “sufficiently restrictive” level will turn out to be, but FOMC participants revised their funds rate projections substantially upward. They now see a 5.1% median funds rate for the end of 2023 – up from 4.6% in their September Summary of Economic Projections. For the end of 2024, the median funds rate is projected at 4.1%, up from 3.9% in the September SEP.
The FOMC’s estimate of the “longer run” funds rate was left at 2.5%. But while the funds rate is now well above that nominally “neutral” rate, in real terms it remains far below the current rate of inflation. The Fed’s preferred inflation measure — the price index for personal consumption expenditures (PCE) — was 6.0% year-over-year in October (5% core). The consumer price index has been rising considerably faster – 7.1% in November, down from a peak 9.1% in June.
Fed officials have been basing their estimates of the appropriate, “sufficiently restrictive” real funds rate in good part on expected inflation. So, it is significant that FOMC participants also revised up their inflation forecasts, though not as much as they raised their funds rate projections. The PCE is now forecast to rise by 3.1% next year, up from the 2.8% forecast in the September SEP. The core PCE is now projected to rise by 3.5% next year, up from 3.1% in September.
Because the FOMC expects to increase the cost of money to reduce inflation, the unemployment rate is forecast to go higher. It is now expected to average 4.6% next year, compared to a September forecast of 4.4%. The officials also marked down their economic growth forecasts. Real GDP growth is now projected at a meager 0.5% next year, compared to September’s 1.2%. The FOMC’s “longer run” GDP estimate of trend growth was left at 1.8%.
In its policy statement, the FOMC retained verbatim rate strategy language introduced on Nov. 2: “The Committee anticipates that ongoing increases in the target range will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2 percent over time. In determining the pace of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”
The statement’s characterization of economic conditions was not changed.
Underscoring the higher rate trajectory in his post-FOMC press conference, Powell spoke firmly about the Committee’s desire to make sure the funds rate reaches a level that is “sufficiently restrictive” to reduce inflation – even at the cost of higher unemployment.
After 425 basis points of tightening, he said the funds rate is now “in restrictive territory but is still not “restrictive enough.”
As the FOMC began two days of meetings, the Labor Department released its November consumer price index report, which showed a smaller than expected rise in prices, and Powell acknowledged “a welcome reduction in the month of price increases.”
However, he said “it will take substantially more evidence to give confidence that inflation is on a sustained downward path.” He said the CPI report “gives us greater confidence in our forecast rather than at this point changing our forecast.”
Powell said the fundamental problem is an imbalance between supply and demand, particularly in the labor market, where he said wages are rising faster than is “consistent” with 2% inflation.
He said, “reducing inflation is likely require a sustained period of below trend growth and some softening of labor market conditions.”
Referring to the FOMC forecast that unemployment will rise a full percentage point from the current 3.7% rate, he said “4.7% (unemployment) is still a strong labor market.” Indeed, he called the labor market “extremely tight.”
Although higher interest rates are cooling demand in such interest-sensitive sectors as housing, Powell said “it will take time … for the full effects of monetary restraint to be realized, especially on inflation.” His greatest concern was core services inflation excluding housing, which he said will take longer to bring down.
Therefore, Powell said monetary policy needs to become more restrictive and stay that way longer than the FOMC previously hoped. The level of rates, not the pace of rate hikes, is what’s important now, he said, declining to say how big the next rate hike will be on Feb. 1 or how high the “peak rate” will need to be.
“We’ll make the February decision based on the incoming data and where we see financial conditions (and) where we see the economy …,” he told reporters.
“(A)s we lifted off and got into the course of the year and we saw…how strong inflation was and how persistent, it was important to move quickly,” he said. “The speed and pace was the most important thing. Now that we’re coming to the end of this year, we have raised 425 basis points this year, and we’re into restrictive territory, it’s now not so important how fast we go. It’s far more important to think what is the ultimate level and then at a certain point, the question will become how long do we remain restrictive….”
“(U)ltimately, that question about how high to raise rates is one we’d make looking at progress on inflation and where financial conditions are and making assessment of whether policy is restrictive enough.…”
As of now, Powell said “we’re not in a restrictive enough stance even with today’s move….”
Once the funds rate becomes “restrictive enough” Powell said “then the question will be how long do we stay there. And the strong view on the committee is we’d need to stay there until we’re really confident that inflation is coming down in a sustained way and we think that will be some time.”
Noting that non-housing service prices represent 55% of the core PCE price index and that they have been rising more rapidly due to tight labor market conditions and rapid wage gains, Powell said “there is an expectation really that the services inflation will not move down so quickly so…we may have to raise rates higher to go where we want to go.”
Powell dismissed speculation of possible Fed rate cuts next year out of hand.
“Our focus right now is really on moving our policy stance to one that’s restrictive enough to assure a return of inflation to 2% goal over time; it’s not on rate cuts,” he said. “And we think that we’ll have to maintain a restrictive stance of policy for some time.”
“Historical experience caution strongly against prematurely loosening policy,” he continued. “I wouldn’t say we’re considering rate cuts.” He noted “there are not rate cuts in the SEP for 2023.”
Powell declined to say how rapidly the FOMC will raise rates at coming meetings and said the median funds rate published in the SEP does not represent a final Committee consensus or plan, noting that the FOMC has steadily increased peak rate projections over the course of the past year.
“I haven’t made a judgment on what size rate hike to make at the last meeting but …. having moved so quickly and having now so much restraint that is still in the pipeline, we think that the appropriate thing to do now is to move to a slower pace….,” he said. “That will allow us to feel our way and, you know, get to that level, we think, and better balance the risks that we face….”
“But again, I can’t tell you today what the actual size of that will be,” he went on. “It will depend on a variety of factors including the incoming data in particular; the state of the economy; the state of financial conditions.”
Powell said the Fed has no choice but to focus on fighting inflation rather than worrying about how much the economy might weaken or how unemployment might go. He said the cost of doing too little to restore price stability far outweighs the cost of doing too much.
The FOMC’s final deliberations of 2022 came against the backdrop of mounting policy disagreements among Fed officials, with some contending that money is far too cheap while others warned against “over tightening.”
This divergence is reflected in the new funds rate “dot plot.” Projections range from 4.9% to 5.6% for next year and from 3.1% to 5.6% for 2024.
These wide bands of expectations for how high the “appropriate” funds rate will need to be to restore “price stability” reflect the high degree of uncertainty among Fed officials. At the November FOMC meeting, “many participants commented that there was significant uncertainty about the ultimate level of the federal funds rate needed to achieve the Committee’s goals and that their assessment of that level would depend, in part, on incoming data,” according to the minutes.
St. Louis Fed President James Bullard recently estimated a “sufficiently restrictive zone” from 5% to more than 7%.
In raising the funds rate by 50 basis points, the Fed lifted other administered rates commensurately. The Board of Governors, the core of the FOMC, lifted the rate paid on reserve balances the same amount to 4.40% The offering rate on overnight reverse repurchase agreements was raised to 4.30%. The Board raised the primary credit or “discount” rate 50 basis points to 4.5%.
The FOMC also authorized the New York Federal Reserve Bank to continue shrinking the size of the Fed’s massive bond portfolio by a combined $95 billion per month. The policy statement repeated ???? that “the Committee will continue reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities, as described in the Plans for Reducing the Size of the Federal Reserve’s Balance Sheet.”
The Fed considers balance sheet reduction as a complementary mode of monetary tightening.
Research at the Atlanta Federal Reserve Bank has estimated that “a $2.2 trillion passive roll-off of nominal Treasury securities from the Federal Reserve’s balance sheet over three years is equivalent to an increase of 29 basis points in the current federal funds rate at normal times, but 74 basis points during turbulent periods.”