The Federal Open Market Committee (FOMC) raised interest rates by 0.75% at its meeting on Wednesday, 15 June 2022. This followed the release of the May 2022 inflation data last week that showed an unexpected increase. Furthermore, recent data on inflation expectations also showed a worrying rise.
While financial markets initially expected a 0.5% increase, sentiment changed dramatically over the weekend and by Wednesday market expectations were for a 0.75% increase. That enabled the Fed to raise rates sharply without surprising the markets.
As the table below shows, the median FOMC members’ outlook for the US economy has changed markedly since its meeting in March 2022. While it has lowered its growth forecasts for this year and next, it projects the unemployment rate to be 3.7% at the end of 2022, 3.9% in 2023 and 4.1% at the end of 2024. Since the FOMC’s assessment of full employment corresponds to an unemployment rate of around 4%, it expects the labour markets to remain tight.
With inflation remaining strong, it raised its forecast for 2022 to 5.2% but continues to expect inflation to fall sharply next year and be marginally above 2% in 2024.
Central banks with a numerical objective for inflation generally project it to return to target within a few years, otherwise they would change policy to the extent needed to ensure that it did. The more important question is rather what path of interest rates the central bank anticipates will be necessary to achieve the inflation objective.
Not surprisingly given recent strength in the data, the FOMC revised up its projection for inflation sharply. Consequently, it now expects interest rates at the end of 2022 to be 3.4%, or 1.5% higher than it projected in March. It projects even higher interest rates, 3.8%, for the end of 2023, which is 1% higher than it projected in March. For the end of 2024, it revised up its projection to 3.4% or by 0.6%. This represents a sea change in expectations.