Note: The rate since December 2008 is the upper limit of the federal funds target range. Source: Federal Reserve By Karl Russell
Federal Reserve officials left interest rates unchanged on Wednesday, giving themselves more time to see whether they have lifted borrowing costs enough over their 18-month campaign against inflation to sustainably cool price increases.
But policymakers also released a fresh set of economic projectionssuggesting that they still expect to make another rate increase before the end of 2023 — and that borrowing costs are likely to remain higher than officials had previously expected in 2024.
In all, the Fed’s release suggested that a resilient economy is keeping central bankers both optimistic about growth and firmly in inflation-fighting mode.
Fed officials have already raised interest rates substantially since March 2022 in a push to cool the economy and wrangle inflation: They kept them steady at a range of 5.25 to 5.5 percent this week, the highest level in 22 years. And policymakers expect to nudge rates even higher before the end of the year, to 5.6 percent. While they had previously anticipated that they would lower borrowing costs back to 4.6 percent in 2024, they now expect to lower them only to 5.1 percent next year.
That tweak came as the economy’s staying power surprises economic officials. The Fed also expects stronger growth, lower unemployment and slower inflation at the end of 2023 than they had previously anticipated, their release showed.
Taken together, the projections painted a sunny picture, one in which a resilient economy is managing to digest higher borrowing costs without tipping into — or even getting close to — a recession. At the same time, inflation is steadily fading from its rapid pace last year. The combination is giving Fed officials the breathing room they need to be patient, and it is increasing the odds that they might be able to wrangle price increases without inflicting a lot of economic pain.
“Recent indicators suggest that economic activity has been expanding at a solid pace,” the Fed said in the policy statement announcing its decision. Aside from upgrading that characterization of growth from “moderate” to “solid” and noting that job gains have “slowed,” central bankers made few changes to their statement.
Jerome H. Powell, the Fed chair, will have a chance to explain the Fed’s decision to pause — and policymaker forecasts for the future — when he delivers an opening statement and then takes questions at a 2:30 p.m. news conference.
By continuing to predict another rate increase this year, the Fed is keeping its options open. Inflation is showing signs of finally cooling, but risks still threaten to keep prices climbing too quickly for comfort.
Fed officials have meetings in early November and mid-December, leaving them time to raise rates further in 2023 if they think that doing so is necessary.
Officials are trying to figure out how to thread a delicate needle. They want to slow the economy enough to make sure that inflation comes firmly and fully back under control. But they do not want to overdo it, crushing the economy by more than is necessary to tame price increases and tossing people out of jobs in the process.
Calibrating monetary policy is difficult, because it takes months for the full effect of rate increases to trickle through the economy. Adjusting interest rates slowly by pausing along the way gives policymakers more time to assess incoming data, allowing them to make better-informed decisions.
Policymakers will get fresh data on the job market, inflation and consumers before their next meeting, readings that will help to inform whether rates need to raise more, or whether the current level will be the peak.
Hiring has slowed and unemployment has risen slightly in recent months, to 3.8 percent in August. Officials expect it to average 3.7 percent in the final three months of 2023, down from 3.9 percent in their June forecast, their fresh economic projections showed.
At the same time, consumers have continued spending, which has helped to keep the economy growing at a solid pace. Officials upgraded their growth outlook in the fresh forecasts.
But even as the job market and overall economy have been resilient in the face of interest rate increases, inflation has faded substantially this summer.
That has happened partly because pandemic disruptions are fading and partly because the Fed’s higher interest rates are making mortgages, leases and business loans more expensive, cooling key parts of the economy.
The Personal Consumption Expenditures price index — the Fed’s preferred measure of inflation — climbed 3.3 percent in July from the previous year. That is down notably from a peak last summer of 7 percent, though it is still well above the 2 percent growth rate that the Fed targets.
After stripping out food and fuel costs for a “core” index that the Fed pays even closer attention to, the index climbed by 4.2 percent in July, the latest month for which data is available.
Fed officials expect the core inflation measure to finish the year at 3.7 percent, suggesting that they still think a more marked slowdown is coming. But they think that it will take time for inflation to return fully to their goal: They do not expect 2 percent core inflation until 2026.
Today’s high rates could help to weigh down inflation by making borrowing money more expensive, acting like a brake on growth. With fewer consumers shopping and fewer businesses expanding, companies will struggle to keep lifting prices.
The debate over the coming months is likely to focus on whether rates need to go a bit higher to ensure that the economy is slowing: Some Fed officials have been watching the economy’s resilience warily, worried that it could make it harder to stamp out inflation fully.
And the question for next year is likely to be how long interest rates need to stay so high. The fed funds rate does not adjust for inflation, and some central bankers have pointed out that it will be weighing on the economy more and more as price increases slow.
But officials have also suggested that they do not want to change stance prematurely. They worry that if they step away from their fight against inflation too soon and inflation flares back up, it could come at a serious cost.
Years of higher inflation could convince consumers that rapid price increases are likely to be a permanent part of the economy, making it tougher and more economically painful to stamp out inflation in the longer run.