Fed Slows Pace of Rate Increases as Expected
December 14, 2022
As expected, the Federal Reserve voted today to raise its target for short-term interest rates by 50 basis points at its final meeting of the year. This decision comes after 75 basis point increases at each of the four previous meetings. While this is a moderation in the pace of rate hikes, it is still, in the words of Federal Reserve Chair Jerome Powell, "historically large." The Fed Funds rate has been increased by a cumulative 425 basis points this year, the most since 1980, taking the target range for the Fed Funds rate is now between 4.25 and 4.5 percent.
The decision to raise rates by half a percentage point was not a surprise. The economic data released since the last Fed meeting and policymakers' public comments suggested this was the most likely outcome. The interest leading up to the meeting was in the Summary of Economic Projections. This round of projections was decidedly more hawkish than those issued following the September meeting. For instance, the median estimate for the year-end 2023 Fed Funds rate increased from 4.6 percent to 5.1 percent. The median projections for 2024 and 2025 were also revised higher by 20 basis points to 4.1 percent and 3.1 percent, respectively.
These rate projections are at odds with the path of rate increases implied by the market. Futures markets suggest an increase in the Fed Funds rate to less than 4.9 percent by mid-year, followed by a quick transition to interest rate cuts in the second half of the year, with rates ultimately ending 2023 below 4.4 percent. The Fed has communicated that it intends to hold interest rates at a "sufficiently restrictive" level for "some time." Still, the market continues to doubt either the Fed's resolve or the need to keep rates in restrictive territory amid expectations for weaker economic growth.
The committee's median projection for economic growth next year was lowered to 0.5 percent, down from 1.2 percent in September's forecasts. Meanwhile, the committee expects the unemployment rate will rise to 4.6 percent by the end of next year and hold at that level in 2024. Of course, when the Fed moves away from restrictive policy to support economic growth and the labor market largely depends on the path of inflation. The median estimate sees PCE inflation falling from 5.6 percent this year to 3.1 percent next year and 2.5 percent in 2024. If inflation falls faster than forecasted in early 2023, it could be enough for the Fed to pivot policy sooner than they currently expect. In the meantime, policymakers may use their public comments in the weeks ahead to bring markets into line with their current outlook.
David Allen, CFA, CFP
Chief Investment Officer
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