NEW YORK (S&P Global Ratings) Jan. 26, 2022--The Federal Open Market Committee (FOMC) decided unanimously to keep the target range for the federal funds rate at 0-0.25 percentage points at the end of its two-day meeting on Jan. 26. The FOMC also continued its tapering, with bond purchases reaching zero by early March 2022. The statement began with the health of the U.S. economy: "Indicators of economic activity and employment have continued to strengthen," though it did note the impact omicron is having on certain sectors.
Most importantly, the FOMC statement made it clear that the Fed's interest rate rocket is heading to the launchpad and preparing for liftoff. After already announcing that it reached its inflation goal, the Fed has now confirmed that its "maximum employment" target has also been met, positioning it to begin raising rates as soon as its March meeting.
We now expect the Fed to raise rates in March, the first of at least three rate hikes this year. But it's not just a question of liftoff in interest rates--it's now more of a question of how high the Fed wants to fly its monetary policy rocket and how fast. And our reading of the statement suggests that the Fed is aiming for the stars in this cycle of monetary tightening.
The Jan. 26 statement changed the committee's assessment of maximum employment dramatically from "With inflation having exceeded 2 percent for some time, it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee's assessments of maximum employment" to "With inflation well above 2 percent and a strong labor market, the Committee expects it will soon be appropriate to raise the target range for the federal funds rate." This change in wording all but broadcasts that the next time the committee meets in March, its traditional interest rate policy vehicle will lift off.
With long-term inflation expectation indicators advancing to a decade high, the Fed has reason to be concerned that inflation expectations have proven "persistent" (see chart). The minutes from the December FOMC meetings already indicated that "many participants" pointed to factors that "might suggest that elevated inflation could prove more persistent," a far cry from the early days of "largely transitory" pricing pressure. The January statement highlighted "elevated levels of inflation" while Fed Chairman Jerome Powell's press conference also indicated that these high prices could prove to be more persistent.
After at least three expected rate hikes this year, five more rate hikes are in our forecast through 2024. While the Fed will likely be sensitive to the flattening yield curve, on concerns of unintended consequences, current inflation pressures indicate that more rate increases from the Fed this tightening cycle are a real possibility. Depending on the data, balance-sheet normalization will likely start in early 2023.
The views expressed here are the independent opinions of S&P Global's economics group, which is separate from, but provides forecasts and other input to, S&P Global Ratings' analysts. The economic views herein may be incorporated into S&P Global Ratings' credit ratings; however, credit ratings are determined and assigned by ratings committees, exercising analytical judgment in accordance with S&P Global Ratings' publicly available methodologies.
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| U.S. Chief Economist: | Beth Ann Bovino, New York + 1 (212) 438 1652; bethann.bovino@spglobal.com |
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