The Fed on Wednesday kept rates on hold but left the door open to one more increase in 2023, consistent with market expectations.
With rates perched at a 22-year high, some officials are reluctant to push the envelope any further despite still elevated core inflation and little in the way of evidence to suggest the economy is approaching cliff’s edge.
Investors were eagerly anticipating the new dot plot, and particularly the forecasts for 2024. In June, the dots suggested Fed officials expected to cut rates by 100bps next year. By the time Wednesday rolled around, markets were generally of the view that the 2024 median would shift higher in light of the resilient US labor market and a domestic consumption impulse that refuses to submit.
This is a Fed that takes what the market is willing to price, and also a Fed keen to insist on some version of the “higher for longer” narrative unless and until core inflation convincingly moderates nearer to levels consistent with price stability as arbitrarily defined. Given that, it wasn’t surprising to see an upward revision to the 2024 placeholder, but at 50bps, the scope of that revision was larger than some predicted.
The spread between the 2023 and 2024 dots now points to just 50bps of easing next year. In June, Fed officials expected to cut rates by 220bps by 2025. The September projections imply just 170bps over the same window.
“As a way to deliver the hawkish hold, the more aggressive dots should continue to push cut pricing further into” next year, BMO’s Ian Lyngen remarked, adding that “only one dot made the difference between 50bps and 75bps in cuts in 2024 [which] makes it much closer to the consensus.”
The forward guidance from the statement was unchanged. “In determining the extent of additional policy firming that may be appropriate, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation and economic and financial developments,” the Fed said, preserving their optionality by telegraphing an openness to additional increases.
Investors were also hyper-vigilant for any upward movement in the long run dot. That’s the neutral rate discussion, and although Jerome Powell indicated in Jackson Hole that the Fed wasn’t eager to signal any sort of sea change in policymakers’ thinking around r-star, the door was still open to a modest shift higher. Instead, the median remained at 2.5%. The median for the newly-introduced 2026 dots was 2.9%.
As expected, Fed officials marked up their forecast for growth in 2023. Again. The US economy will expand 2.1% this year and 1.5% next. Those projections were 1% and 1.1% in June.
The new PCE forecasts were 3.3% for this year, 2.5% for 2024 and 2.2% for 2025. Three months ago, the 2023 projection was marginally lower, at 3.2%. The core PCE projection for this year moved down to 3.7% from 3.9% and was unchanged at 2.6% for 2024.
The unemployment rate forecasts were revised markedly lower to 3.8% this year and 4.1% through 2025. Previously, the Fed expected the jobless rate to rise to 4.5% next year and remain there over the forecast horizon. I suppose the downward revisions reflect confidence in a soft landing.
As a reminder, it wasn’t so long ago when Fed staff (if not Fed officials) were projecting a mild recession beginning later this year. Suffice to say that isn’t likely to pan out, all “Wile E. Coyote” warnings aside. Staff eventually dropped that call.
The Fed on Wednesday described the economy in familiar terms. “Economic activity has been expanding at a solid pace,” the statement read. Job gains “remain strong” and inflation “remains elevated.”
All in all, the dots and projections skewed hawkish. I don’t see any way around that. Officials expect just half as much easing as they did in June, expect growth to be materially more robust and expect the unemployment rate to loiter near 4% in perpetuity. Still, markets expected a hawkish hold, so the scope for dramatic repricings outside of rates was probably limited.