Federal Reserve Looking Ahead To Higher Inflation As Economy Rebounds, But It Won’t Raise Rates Yet

Topline

The Federal Reserve on Wednesday acknowledged that the economic outlook is improving in the wake of the coronavirus crisis, which it expects will raise inflation over 2%, but signaled that it will keep rates at near-zero levels through 2023.

Key Facts

The leaders of the central bank predict that the unemployment rate (which now sits at 6.2%, down from an eye-watering high of 14.7% in April) will fall to 4.5% by the end of 2021.

They expect GDP to grow 6.5% this year, up from their prediction of 4.2% growth three months ago, and core inflation to come in at 2.2% for the year (though it’s currently running at below 2%, the Federal Reserve Open Market Committee said, and is likely to slow to 2.0% in 2022).

Federal Reserve chair Jerome Powell has repeatedly said that the central bank will not move to raise rates until it sees significant evidence that the economy is on the road to a robust recovery, which the central bank defines as maximum employment and inflation that averages 2%.

Powell emphasized Wednesday that short term spikes in prices and wages might occur in the second half of the year as vaccinations pick up and stimulus spending makes its way into the economy, but signaled that the Fed does not see those short term spikes as cause for immediate concern.

The Fed will also keep purchasing Treasury bonds and mortgage-backed securities at a rate of $120 billion per month as part of a program to prop up the U.S. economy during the coronavirus crisis. 

Key Background

Trillions of dollars in “swift and forceful” federal stimulus spending in the United States helped avert avert “some of the very worst economic outcomes,” Powell said during a press briefing Wednesday. That spending has also fueled concern on Wall Street about ballooning levels of debt and runaway inflation.

Big Number

37%. That’s the portion of fund managers who named inflation as the number one risk to markets, according to a Bank of America survey released Tuesday. It’s the first time in more than a year that the risk of Covid-19 was not the top concern for global investment managers.

Tangent

In August, the Federal Reserve made a major change to its strategy for managing inflation. Rather than pulling back on policy and raising rates to head off inflation before it reaches 2%, the Fed will now seek to maintain inflation that averages 2% over time. That means that the central bank is now prepared to tolerate periods of inflation above 2% during economic downturns—a change designed to prevent it from slowing down an economic recovery by withdrawing support too early. 

Crucial Quote

“While we welcome these positive developments, no one should be complacent,” Powell said Wednesday. “At the Fed, we will continue to provide the economy the support it needs for as long as it takes.”

Further Reading

Inflation—Not Covid-19—Is Now The Biggest Risk To Markets, Bank Of America Survey Shows (Forbes)

Stocks Flat But Yields Are Spiking Again Ahead Of Fed Chair Powell’s Speech (Forbes)

Biden Will Push For Tax Hikes For Big Companies And High Earners, Economic Aide Says (Forbes)

U.S. Budget Deficit Hits $1 Trillion With More Massive Stimulus Set To Hike Up Spending (Forbes)

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