Fed signals three rate hikes coming in 2022 as inflation battle begins – Reuters

WASHINGTON, Dec 15 (Reuters) – The Federal Reserve, signaling its inflation target has been met, said on Wednesday it would end its pandemic-era bond purchases in March and pave the way for three quarter-percentage-point interest rate hikes by the end of 2022 as it exits from policies enacted at the start of the health crisis.

In new economic projections released following the end of a two-day policy meeting, officials forecast that inflation would run at 2.6% next year, compared to the 2.2% projected in September, and the unemployment rate would fall to 3.5% – near if not exceeding full employment.

As a result, officials at the median projected the U.S. central bank’s benchmark overnight interest rate would need to rise from its current near-zero level to 0.90% by the end of 2022. That would kick off a hiking cycle that would see the Fed’s policy rate climb to 1.6% in 2023 and 2.1% in 2024 – nearing but never exceeding levels it would consider restrictive of economic activity.

“The economy no longer needs increasing amounts of policy support,” Fed Chair Jerome Powell said in a news conference after the meeting. “In my view, we are making rapid progress toward maximum employment.”

The scenario laid out by the Fed is, in outline, the “soft landing” that its officials hope will transpire, with inflation gradually easing in coming years while unemployment remains low in a growing economy.

The timing of the first hike in 2022, the central bank said, would now hinge solely on the path of a job market that is expected to continue improving in coming months.

Dropped from the latest policy statement was any reference to inflation as “transitory,” with the Fed instead acknowledging that price increases had exceeded its 2% target “for some time.”

Annual inflation has been running at more than double the Fed’s target in recent months.

To open the door to rate hikes, the Fed announced it was doubling the pace of its bond-buying “taper,” putting it on track to end the purchases of Treasuries and mortgage-backed securities (MBS) by March. Until recently, the central bank had been buying $120 billion of Treasuries and MBS each month to help fuel the economic recovery.

U.S. stocks closed sharply higher while yields on Treasury securities were also up. The dollar (.DXY) initially strengthened after the release of the Fed statement and projections before surrendering the gains to trade lower on the day against a basket of major trading partners’ currencies.

Traders in interest rate futures were pricing a first rate hike in May, and two more by the end of 2022. read more

‘TAKE SOME TIME’

Though the Fed made any rate hikes contingent on some further improvement in the job market, the new policy projections left little doubt that borrowing costs will rise next year, absent a major economic shock. All 18 policymakers indicated at least a single rate increase would be appropriate before the end of 2022.

All told, the new projections and policy statement began to pin down the central bank’s plan to “normalize” monetary policy following nearly two years of extraordinary efforts to nurse the economy through the fallout of the pandemic.

That is still underway, the Fed acknowledged, with the new Omicron coronavirus variant adding to uncertainty about the course of the economy.

It is not clear what Omicron’s effect will be on inflation, growth or hiring, but people are “learning to live with” each wave of the virus, Powell said.

However, it could be a while before policymakers can know what the U.S. labor market could look like with the pandemic under control, the Fed chief said. “It doesn’t look like that’s coming anytime soon,” he said.

The Fed, at this point, said economic growth is still expected to be 4.0% next year, an increase over the 3.8% projected in September and more than double the economy’s underlying trend.

One of the biggest threats that could impede a return to a pre-pandemic labor market is high inflation, Powell said, because it is going to “take some time” for the economy to fully heal.

“What we need is another long expansion,” he said. “That’s what it would really take to get back to the kind of labor market that we’d like to see, and to have that happen we need to make sure that we maintain price stability.”

Reporting by Howard Schneider; Additional reporting by Jonnelle Marte
Editing by Paul Simao

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