The Federal Reserve on Wednesday approved the fourth straight jumbo increase in a key U.S. interest rate and signaled rates are likely to go higher than previously forecast. Yet the central bank also suggested it might raise rates more slowly to better evaluate the effects on the economy.
For the first time, the central bank signaled it would watch closely whether rapidly rising borrowing costs might damage the economy owing to the usual “lag” in how higher rates slow growth.
The Fed’s seemingly softer language in its statement initially gave a boost to stocks,
DJIA,
SPX,
but equities turned lower after Chairman Jerome Powell’s tougher talk in a press conference after the rate hike.
By a unanimous vote, the Fed hiked its rate by 0.75 percentage points to a range of 3.75% to 4%. That’s the highest level in 15 years.
In new language, the Fed said it expects to continue with further rate hikes “until they are sufficiently restrictive” to return inflation to 2% “over time.”
The Fed also said it 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.”
Many investors and economists viewed the language as a step back from the Fed’s aggressive strategy this year.
“Those two remarks taken together will give officials a platform to stop hiking rates while inflation is still high,” said economist Katherine Judge of CIBC Economics.
Chairman Jerome Powell acknowledged in a press conference that at some point “it will be appropriate to slow the pace of increases.”
But he also said interest rates are likely to end up “higher than previously expected.” The Fed’s last forecast estimated its benchmark rate would top out around 4.6%.
Some say the Fed hasn’t really altered its approach.
“There’s little surprise or change from what the Fed has been saying all along,” said senior economist Will Compernolle of FHN Financial. “They’ll take into account how high rates are already, acknowledge monetary policy’s impacts aren’t immediate, and act depending on what the broader economy looks like at each meeting.”
Two months ago, the Fed penciled in a half-point percentage point rate hike in December but that could change.
After the Fed raised rates at the fastest pace in 40 years, some critics warned the central bank could overdo rate hikes and damage the economy.
Economists say the eventual size of the move will depend on the economic data. There will be two unemployment reports and two consumer price inflation prints before the next Fed policy meeting on Dec. 13-14.
The conventional wisdom is that the Fed will reduce the speed of hikes to a half a percentage point next month and then a final quarter point hike early in 2023.
That would bring the peak Fed funds rate in a range of 4.5%-4.75%. Yet as Powell pointed out, inflation has been so strong recently that rates could go even higher. Some economists are now penciling in a “terminal” rate of 5% or higher.
The latest reading of core consumer inflation reached a high of 6.6% in September, the strongest increase since 1982.
A number of economists are calling for a recession next year.
If there is a recession, economists warn the Fed won’t likely ride the rescue. The central bank has indicated a desire to hold the benchmark rate at a high level to strangle inflation.
For now the economy is still showing plenty of signs of life. The economy grew at a 2.6% annual rate in the third quarter. Economists expect the October employment report to show job growth above 200,000 on Friday.
