Fed Maintains Stance, but Sees 2023 Rate Hike

Inflation Seen Driven by 'Temporary' Factors

Federal Reserve Chair Jerome Powell adjusts his eyeglasses.
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Samuel Corum/Stringer/Getty Images

The policy-making arm of the Federal Reserve pledged, as expected, to continue to help the economy rebound from the pandemic, keeping its bond-buying program and other monetary policy status quo despite a more bullish outlook for economic growth and higher inflation expectations for the year. 

The Federal Open Market Committee (FOMC) also indicated Wednesday it would raise its benchmark interest rate from virtually zero by 2023, sooner than it had anticipated in March.

Key Takeaways

  • The policy-making arm of the Federal Reserve pledged to continue to help the economy recover from COVID-19, keeping its bond-buying program and other monetary policy status quo even while lifting its outlook for economic growth.
  • The Federal Open Market Committee now anticipates increasing benchmark interest rates from virtually zero in 2023, earlier than originally expected.
  • The Federal Open Market Committee continued to attribute the recent increase in consumer price inflation to temporary factors.

While acknowledging that overall inflation has been faster than anticipated, Federal Reserve Chairman Jerome Powell said it has been driven by what will likely prove to be temporary bottlenecks and shortages. 

“The prices that are driving that higher inflation are from categories that are being directly affected by the recovery from the pandemic and the reopening of the economy,” Powell said at a press conference following a two-day FOMC meeting. “It seems like these very specific things that are driving up inflation will be temporary.”

Powell pointed to the price of lumber, which rose rapidly as the economy reopened, but has fallen 40% from its peak in May, and of used cars, which have jumped by double-digit percentages for three straight months, but which he anticipates will eventually cool off.

Reaction to Inflation

The inability of suppliers to meet surging demand for goods and services, creating shortages in both materials and labor, has set prices on fire. In May, consumer prices rose 5% year-over-year, the highest inflation rate since 2008. Some economists noted that the increase in costs were broad-based, indicating that they couldn’t be attributed entirely to temporary conditions or to the unusual lack of inflation in May of 2020. Other economists believe the personal consumption expenditures index, or PCE—the Fed’s preferred measure of inflation—will reach the fastest pace in three decades, excluding food and energy prices.

All of this had begged the question of whether the FOMC, which uses its benchmark interest rate to control inflation, would signal a tightening of monetary policy anytime soon. 

Powell said the committee had discussed whether to back off from its purchases of securities, which has been one of its tools to support financial markets during the pandemic’s economic downturn, but had not set a timetable for lifting its foot off the gas.

“You can think of this meeting we had as the ‘talking about talking about’” tapering asset purchases meeting, he said.

Raising Benchmark Rates Sooner

But the committee, which previously forecast that its benchmark interest rate would remain near zero through at least 2023, now anticipates raising it to 0.6% during 2023. Thirteen of 18 officials indicated they expect to lift the rate by the end of 2023, up from seven who expected that outcome in March.

The benchmark fed funds rate is arguably the most powerful interest rate in the world, influencing the cost to borrow on credit cards, through mortgages, or with bank loans. In March of 2020, when the onset of the COVID-10 pandemic was crushing the economy, the FOMC cut it to a range of 0%-.25% to help cushion the blow and keep a flow of credit to households and businesses.

The FOMC now expects the economy to grow 7% in 2021, up from the 6.5% it projected in March. It also expects PCE in 2021 to reach 3.4%, up from its March forecast of 2.4% (or 3%, up from 2.2%, if food and energy prices are excluded.) For 2022, it edged up its PCE forecast to 2.1% and for 2023, to 2.2%.

Stocks closed lower across the board after the FOMC statement.

Diccon Hyatt contributed to this report. Have a question, comment, or story to share? You can reach Medora at medoralee@thebalance.com.