FOMC Statement, Projections, and Press Conference

September 21, 2022

The FOMC increased the federal funds target by 75 basis points, meeting but not exceeded the majority forecast of investors. The new target is a range of 3.0-3.25%. The statement made just one modification, describing growth in spending and production as modest. In the July 27 statement, such was said to have “softened.”

The policy decision was made unanimously.

GDP growth was revised down a half percentage point to 0.2% in 2022 and 1.2% next year. The median jobless rate will be above the median 4.0% longer run pace in both 2023 and 2024. Inflation is projected higher for 2022-2024 than in projections released in June. The big fear is that expected inflation drifts upward if inflation isn’t attacked strongly now.

The pace of future tightening will be data-dependent. The pace will slow eventually but only when confident that inflation is coming down. The median funds range target at the end of 2022 of committee members is 4.4%, a full percentage point higher than thought in June.

The central message of Chairman Powell’s press conference is that monetary policy will have to move to a meaningfully restrictive stance and remain so for a significant period of time. While Chairman Powell mentioned plausible other factors that could put downward pressure on inflation such as fading supply-side shocks, officials are convinced that without a fairly enduring spell of stiff monetary restraint where inflation-adjusted interest rates are above zero percent throughout the entire maturity spectrum, the goal of returning to 2.0% inflation and maintaining that target will not be met.

Price stability defined in such a manner is a goal that Fed officials are not prepared to compromise. Reporters at the press conference repeatedly tried to elicit a pre-announced itinerary of moves into a strategy that in tactical terms will be decided on a meeting to meeting basis. Powell did not provide that guide because, in truth, there is no way to know until one sees how the economy actually evolves and what other shocks that impact the path of inflation arise. Historical examples of quantifying the long and variable lags between a change in Fed policy and U.S. inflation may be more useless than usual. However, Powell did offer useful information regarding the more important things officials are watching closely.

As in past communications, labor market conditions emerge as a paramount indicator. The labor market is currently much tighter than officials assumed such would be at this point when they embarked upon rate normalization. Every step of the way since March, they have been surprised by the lack of progress. The unemployment rate but also job vacancies, employment growth, and job quits will need to soften. Moreover, the labor market’s resilience thus far, being at variance with the experience of earlier business cycles, suggests that real interest rates may need to go higher and stay so for longer than historical precedent would suggest.

Measures of expected inflation that one can infer from market prices and that emerge in survey evidence will be another important policy guide. So far, expected inflation in the short term has not risen as rapidly as the ascent of actual inflation. While encouraging, that fact doesn’t warrant easing up on the pace of monetary restraint. The FOMC fears that the longer that inflation remains well above target, the greater becomes the probability of short-term price and wage expectations decoupling from long-run targets. If that happens, the ultimate economic pain of restoring price stability could be magnified greatly.

The individual economic projections of FOMC members in fact gives a good indication of what can be expected at the remaining scheduled policy meetings in 2022, of which there are just two. The median assumption of the appropriate federal funds target midpoint at end year was raised sharply to 4.4% from 3.4% at the time of the June meeting and 1.9% when the initial 25-basis point hike to 0.25-0.50% was undertaken six months ago. That suggests another 125 basis points of increase combined at the upcoming two meetings, although Powell noted that for several committee members a change of 100 basis points appeared sufficient. While these indications only represent what different officials think will become necessary based on how they see the economy and inflation evolving, they probably represent a minimum rather than a maximum of what will in fact be done. Reading between the lines, it seems that the likeliest sequence is a 75-basis point increase next time, followed by a 50-bp hike in December, and two hikes of 75 bps appear to be a better bet than two hikes of 50 bps.

Why? Powell repeatedly expressed surprise and disappointment at the lack of more than very spotty evidence thus far of inflation subsiding. That surprise coexists with other signs of more resilience in the face of three percentage points of interest rate rise since March. BeforeĀ  pressure on the monetary brake is lightened, officials want to see actual inflation and expected inflation fall significantly. They need to see significantly less labor market tightness, and they need to be confident from other received information that those favorable developments are not data noise but in fact represent start of a trend that will deliver the 2% inflation target in 2025. With just three months left in the year, I doubt any shift in the data would be backed by enough observations to meet that last condition. And if in December, there has been as little improvement from now as that seen between June and the present, they will not feel comfortable throttling back to a rate rise of less than 75 basis points.

Copyright 2022, Larry Greenberg. All rights reserved. No secondary distribution without express permission.

 

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