Don’t Buy the Fed’s Rate Projections
Most Federal Reserve policy makers project the central bank will raise rates one more time this year. That doesn’t mean it will.
By Justin Lahart
Federal Reserve officials voted to keep interest rates steady at a 22-year high on Wednesday. PHOTO: ANDREW KELLY/REUTERSDoth the Fed project too much?
Federal Reserve policy makers on Wednesday held to their target range on rates—no surprise there.
If there was a surprise, it was how little they expect to cut rates next year.
Updated projections showed that most policy makers still expect to raise rates again in 2023, though with less conviction than before.
Whereas, following their June meeting, a few officials anticipated raising rates by more than a quarter point above the current level, now none do.
And seven of 19 officials don’t expect to raise rates again at all.
Investors are even less convinced that more tightening is coming.
Following the Fed’s policy announcement, interest-rate futures put the odds of another rate increase by year-end at less than 50%.
The general sense is that by penciling in one last hike, Fed policy makers are hanging on to their option to raise rates, in case inflation really heats up again while the job market stays strong.
It is easier to take that option away later than it is to do so now, and then end up having to reinstate it.
Projecting one last rate increase is also a way of preventing investors from immediately turning to the next question: When will the Fed cut?
The risk is that as soon as investors start doing that, rate expectations will come down sharply, and with them long-term interest rates, providing the economy with a boost the Fed doesn’t want it to receive just yet.
The Fed’s new projections also indicated that policy makers expect to cut rates by far less next year than they thought before.
They now forecast, on balance, that the federal-funds rate will be 5.125% at the end of next year, just a quarter point lower than the midpoint of the current range.
In June, they forecast a year-end 2024 rate of 4.625%.
Investor expectations for rates at the end of next year have risen, but they are still well below the Fed’s, at about 4.8%.
As with the Fed’s year-end 2023 rate forecast, it might be that policy makers are trying to keep investors from jumping the gun on rate-cut expectations, while investors think this is probably a bluff.
But at the same time, the Fed seems to be forecasting a soft landing for the economy: Not only did policy makers boost their projections for gross-domestic-product this year—a near necessity, considering recent data—they also pushed up their 2024 GDP-growth forecast, while lowering their forecast for the unemployment rate in the final quarter of 2024.
Investors might have a harder time believing that a soft landing will come true.
And even if investors do believe the economy can weather through next year, they might also think the Fed will need to lower rates to ensure the soft-landing scenario actually comes true.
The first rate cuts could come faster than the central bank thinks.
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