The Fed Expects to Raise Interest Rates in 2022
Interest rate hikes are imminent and recent moves by the Federal Reserve to accelerate their removal of monetary stimulus is an early indicator of the looming increases to come. After a two-day policy meeting that took place on December 15, the Federal Open Market Committee (FOMC) is expected to maintain the near-zero rates, but will double its pace of tapering asset purchases to $30 billion a month starting in January to run through March 2022. These moves are aimed at combating the current spike in inflation which has reached a 40-year high that has prompted the Fed to take swift action.
By ending the asset purchase program in the first quarter, the FOMC will ultimately raise rates sooner than they otherwise would have, since Fed officials have said they prefer not to hike rates while tapering is ongoing. With the Fed planning to end its pandemic-era bond purchases in March, they are set for a 0.75% total interest rate increase by the end of 2022. These interest rate increases are necessary to prevent further increases in inflation rates and reflect a shift in how the Fed is dealing with the economic fallout from the pandemic.
Forecasts for inflation in 2022 indicate rates will likely be raised to around 2.5-2.6%, which is up from the projected 2.2% back in September. Inflation is not considered to be “transitory” any longer, and while it is still expected to subside, it will simply take longer to do so with rates projected to fall back to 2.1% in 2024.
Rate hikes are expected to increase starting in March 2022, and increases are anticipated to accelerate through 2024. This marks the largest shift ever to occur in the “dot plot” since its inception in 2012 which is why leading economic figures like Fed Chair Jerome Powell are moving away from any reference to the dots. Combined with the tight job market and the highest Consumer Price Index (CPI) reading since 1982, the FOMC is likely to take a hawkish turn in their policymaking, but this can change depending on Biden’s appointments to the vacant seats on the Fed board. These appointments are expected to be announced before policymakers break for the holiday season.
Despite what may seem like bad news, the market initially responded favorably to these anticipated announcements from the Fed. The Fed has raised expectations for economic growth in the next year and has lowered them for 2023 which indicates when they believe they will finally start to see the effects of their current policy decisions.
Unfortunately, the tight labor market does not appear to be improving anytime soon, which translates to a continued labor shortage, driving up wages and consumer spending as a result—in other words, consumer inflation will continue to rise. With this formula for rising inflation still in place, it is simply common sense for the Fed to take action and raise interest rates in order to help stabilize the economy.