Summary
The Federal Reserve will slow the pace in December to implement a 50-basis-point interest rate rise, but economists surveyed by Reuters say a prolonged period of U.S. central bank tightening and a higher policy rate peak are the biggest risks to the current outlook.
U.S. consumer price inflation suddenly dropped below 8% in October, strengthening already well-established market expectations the Fed would opt for smaller rate rises going forward after four successive 75-basis-point hikes.
But the most recent Reuters poll shows forecasts for inflation in next year and into the next are slightly larger than thought one month earlier, indicating it is not time yet to look at an imminent pause in the Fed’s tightening move.
The Fed is expected to lift its federal funds rate by a 0.5 percentage point to the 4.25%-4.50% range at its December 13-14 policy meeting, according to 78 of 84 economists who took part in a Nov. 14-17 Reuters survey.
This funds rate, which the Fed has lifted from near-zero in March in one of its quickest rate-hiking campaigns ever, was widely predicted to peak at a minimum of 4.75%-5.00% in early 2023, 25 basis points higher than seen in October’s poll. Peak rate forecasts floated between 4.25%-4.50% and 5.75%-6.00%.
But 16 of 28 respondents to a different question said the greater risk was that rates would peak higher and later than they forecast now, with an additional four saying higher and earlier. The rest said it would be lower and earlier.
Philip Marey, senior U.S. strategist at Rabobank, said:
“While markets are focused on peak inflation, underlying inflation trends are persistent. This could force the Fed to keep raising the federal funds rate well into next year and beyond levels currently anticipated.”
Some Fed policymakers have indicated rates would go higher compared to their forecasts from September and they would have to see a steady and significant decline in price hikes to consider ending the tightening with core CPI running more than triple their 2% goal.
While price pressures were seen consistently falling, inflation as measured by the CPI along with the core personal consumption expenditures (PCE) price index was not seen going back to 2% until at least 2025.
Most economists, 18 of 29, also said the greater risk was that price hikes would be larger than they projected over the next six months. Andrew Hollenhorst, chief U.S. economist at Citigroup noted:
“While the softer (CPI) report will support the Fed’s desire to slow the pace of the rate hikes to 50 basis points in December, we do not see in the report any clear evidence inflation will decelerate convincingly toward the 2% target. The softer reading does not significantly affect the upside we see to inflation.”
The most hawkish tightening cycle in forty years has brought with it a 60% possibility of a U.S. recession within a year, according to the poll, almost similar to October’s survey.
Buy Crypto NowWhile 22 of 30 economists said the recession would probably be shallow – the economy is expected to expand just 0.4% in 2023 as a whole – fears of a deeper downturn have triggered companies to lay off thousands of employees across the country.
The jobless rate was predicted to jump from the current 3.7% to 4.6% by the end of 2023 – with the highest forecast at 5.9% – and an average of 4.8% in 2024, still well under the levels witnessed in previous recessions. The unemployment rate forecasts were broadly higher in comparison to the prior month’s poll.
“Despite a potentially modest increase in unemployment next year, the economy will most likely be in recession, which will leave the Fed in the unusual position of maintaining a restrictive policy stance during a downturn in the economy,” said Michael Moran, chief economist at Daiwa Capital Markets America, who had one of the highest interest rate forecasts in the poll.
