– FOMC Retains Tightening Bias; Powell says Will Hike Rates Further If Needed
– Officials Project Funds Rate Will Fall To 4.6% by End of 2024; 3.6% End 2025
– Officials Leave Longer Run Funds Rate Estimate Unchanged at 2.5%
– Powell: FOMC Not Talking About Altering Quantitative Tightening
By Steven K. Beckner
(MaceNews) – At its final monetary policy meeting of 2023, the Federal Reserve again left short-term interest rates unchanged and gave the impression it is finished raising rates and is preparing to change directions.
But Chair Jerome Powell gave no indication that a “proceeding carefully” Federal Open Market Committee is in any rush to start cutting rates.
Although it retained a tightening bias in its policy statement, participants of the Fed’s rate-setting FOMC projected the federal funds rate will decline by 75 basis points next year – not nearly as much as financial markets have been hoping for.
Powell made clear he and his fellow policymakers think the funds rate has peaked, although he didn’t rule out further rate hikes. He stressed again they need to become “confident” that policy is “sufficiently restrictive” to sustain progress toward 2% inflation.
Powell was vague about the timing of rate cuts but said he and his colleagues have already begun talking about “when it will be appropriate to begin dialing back the amount of policy restraint in place.”
He said the actual speed and size of rate cuts will depend on an array of factors, including not only the amount of further progress against inflation but the pace of economic activity.
Were real GDP growth to surprise on the upside, as it did in the third quarter, he said that would imply the need for the Fed to hold rates “higher for longer” or even raise them.
The FOMC continued it so-called “quantitative tightening” policy of shrinking the Fed’s massive portfolio of securities, and Powell said the FOMC is “not think about altering” that strategy.
For the third straight meeting, the FOMC voted unanimously to leave the funds rate in
a 5.25% to 5.5% target range (a median 5.3%), thus negating its previous projection that the funds rate would end 2023 at a median 5.6%. But it left the door open to further tightening by referencing conditions for “determining the extent of any additional policy firming that may be appropriate to return inflation to 2 percent over time.”
The word “any” was added to that phrase, and Powell explained the new wording was intended to convey the Committee’s belief that the funds rate is “at or near the peak.”
In their revised, quarterly Summary of Economic Projections, the 19 FOMC participants, projected the funds rate will decline to a median 4.6%% by the end of 2024. By contrast, in the FOMC’s September SEP, they had projected a median 5.1% funds rate by the end of next year. However, the funds rate was not projected to fall nearly as much as financial markets had been hoping for.
By the end of 2025, the officials projected the funds rate will fall to 3.6%, down from September’s 3.9% projection.
Funds rate projections for next year ranged from 3.9% to 5.4%, but there were no projections of higher rates, as Powell pointed out.
While putting an indefinite on hold on tightening via rate hikes, the FOMC extended “quantitative tightening,” reiterating it “will continue reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities, as described in its previously announced plans.”
Speculation to the contrary notwithstanding, Powell gave no indication the FOMC is on the verge of discontinuing or trimming its $95 billion per month shrinkage of the balance sheet.
Accompanying the new rate projections were revised economic forecasts. FOMC participants now see inflation, as measured by the price index for personal consumption expenditures (PCE), ending this year at 2.8% and next year at 2.4%, compared to 3.3% and 2.5% in the September SEP. They forecast the core PCE to end 2023 at 3.2% and 2024 at 2.4%., compared to September forecasts of 3.7% and 2.6%. They forecast core PCE inflation will decline to 2.2% in 2025, and not reach 2.0% until 2026.
They now see the unemployment rate ending at 3.8% this year and at 4.1% next year – the same as in September.
Real GDP is now forecast to grow by 2.6% in 2023, up from 2.1% in September and by 1.4% in 2024, down from 1.5%.
FOMC participants kept their “longer run’ funds rate estimate, which includes the 2% inflation target plus an estimate of the real equilibrium short-term interest rate, unchanged at 2.5%, despite increasing talk that real rates have risen.
The FOMC did not greatly change its policy statement but did soften its language on economic activity and inflation by noting that “growth of economic activity has slowed from its strong pace” and that “inflation has eased over the past year but remains elevated.”
Before the FOMC began deliberations Tuesday, the Labor Department reported that the consumer price index rose a tenth in November, instead of staying flat as expected, leaving the overall CPI up 3.1% from a year ago. That was a tenth less than in October and far below its 2022 peak of 9.1% peak, but i still well above the 2% target. The core CPI looked even worse, rising 0.3% last month versus 0.2% in October. On an annual basis, it was up 4.0% — same as in October.
Powell acknowledged this and other disinflationary indicators, but went out of his way to say that further progress is needed, thereby reinforcing the FOMC’s tightening bias.
“The lower inflation readings over the past several months are welcome, but we will need to see further evidence to build confidence that inflation is moving down sustainably toward our goal,” he said.
After 525 basis points of tightening since leaving the zero lower bound in March of last year, Powell said “our restrictive stance of monetary policy is putting downward pressure on economic activity and inflation.”
However, Powell again stressed that the FOMC needs to see more disinflation before it will be comfortable starting to ease policy. He said the funds rate is “likely at or near its peak for this tightening cycle,” but warned, “the economy has surprised forecasters in many ways since
the pandemic, and ongoing progress toward our 2% inflation objective is not assured.”
“We are prepared to tighten policy further, if appropriate,” he continued, adding, “We’re committed to achieving a stance of monetary policy that is sufficiently restrictive to bring inflation sustainably down to 2% over time and to keeping policy restrictive until we’re confident that inflation is on a path to that objective.”
Elaborating in response to questions, Powell said FOMC participants didn’t write down additional hikes that we believe are likely, … but participants also didn’t want to take the possibility of further hikes off the table ….”
The greater probability, though, is that the FOMC’s next move will be to move rates lower, Powell indicated, but he was necessarily vague about when that will happen.
Having moved monetary policy from an accommodative to a restrictive stance, “the next question … is when it will become appropriate to begin dialing back the amount of policy restraint that’s in place. So, that’s really the next question. And that’s what people are thinking about and talking about….”
Choosing his words carefully, Powell did not repeat his comment earlier this month that rate cut speculation is “premature,” but did imply it in answer to a question about whether inflation is falling enough to justify rate cuts.
“We’re seeing inflation making real progress,” he said, but added, “we can’t know — we still have a ways to go. No one is declaring victory. That would be premature. And we can’t be guaranteed of this progress. So, we’re moving carefully in making that assessment of whether we need to do more or not. And that’s really the question that we’re on.”
Nevertheless, Powell said “the question of when will it become appropriate to begin dialing back the amount of policy restraint in place … is clearly a topic of discussion out in the world and also a discussion for us at our meeting today.”
He added, “there’s a general expectation that this will be a topic for us, looking ahead.”
But once again Powell emphasized the FOMC will want to see further disinflation at meetings next year “(W)e’re moving carefully at this point. We’re pleased with the progress, but we see the need for further progress” (against inflation), he said. “And I think it’s fair to say there is a lot of uncertainty about going forward. We’ve seen the economy move in surprising directions, so we’re just going to need to see more, further progress.”
Powell has often said that, to reduce inflation to 2%, the economy will likely need to grow below potential, accompanied by “softening” in labor markets. When asked whether the Fed can achieve its “price stability” goal if the economy grows above potential, as it has for much of 2023, Powell conceded it would be “a problem insofar as it makes it difficult for us to achieve our goals ….”
“(I)f you have growth that’s robust, what that will mean is probably we’ll keep the labor market very strong; it probably will place some upward pressure on inflation,” he continued. “That could mean that it takes longer to get to 2% inflation.”
“That could mean we need to keep rates higher for longer,” he went on. “It could even mean, ultimately, that we would need to hike again. It just is – it’s the way our policy works.”
At the same time, Powell said the FOMC doesn’t want to unduly delay monetary easing.
“So, we’re aware of the risk that we would hang on too long, you know,” he said. “We know that that’s a risk, and we’re very focused on not making that mistake….”
Powell said the Fed’s two mandates of “maximum employment” and “price stability” are now “more in balance…So, I think we’ll be very much keeping that in mind as we make policy going forward.”
Powell said the FOMC is mindful of the level of real interest rates, along with financial conditons more generally, but declined do contradict the FOMC’s assessment that the real component of the longer run funds rate has changed.
“A very interesting” question is “where the neutral rate of interest is …,” he said. “(I)f it’s risen — and I am not saying that it has — but if it were to have risen, that would mean that interest rates would need to be a little bit higher to convey the same level of restriction. The thing is, we’re not really going to know that ….”
“So, it’s going to be uncertain,” he continued. “So, we’re going to be making policy in this difficult,
uncertain, really, unprecedented environment.”
Minutes of past FOMC meetings have shown a willingness to keep shrinking the Fed balance sheet even after rate cuts begin, and the FOMC reiterated its intention to keep doing so at a $95 billion per month pace.
When asked whether that strategy will continue as the FOMC starts easing, Powell said there is no near-term plan to halt or reduce run-offs from the Fed’s securities portfolio. He suggested there will come a point when that becomes necessary, but not soon.
“We’re not talking about altering the pace of QT right now…,” he began. “The balance sheet (reduction strategy) seems to be working pretty much as expected.”
Noting that the balance sheet has shrunk by nearly $1.2 trillion, Powell said, “That’s showing up. The reverse repo facility has been coming down quickly and reserves have been either moving up as a result or holding steady.”
“At a certain point, there won’t be any more to come out of, or there will be a level where the reverse repo facility levels out, and at that point, reserves will start to come down…,” he continued.
Powell was referring to the Fed’s Overnight Reverse Repurchase Agreement Facility, whereby financial firms which are not eligible to earn interest on excess reserves, such as money market funds, can get interest payments from the Fed by selling a security to the Fed and buying it back at a lower price the next day. The amount of reverse repos have been steadily declining.
Powell said the FOMC “intend(s) to reduce our securities holdings until we judge that the quantitative reserve balance has reached a level somewhat above that consistent with ample reserves, and we also intend to slow and then stop the decline in size of the balance sheet when reserve balances are somewhat above the level judged to be consistent with ample reserves,” he went on. “We’re not at those levels, with reserves close to $3.5 trillion, we don’t think we’re at those reserves. There isn’t a lot of evidence of that.”
“We’re watching it carefully,” he added.