Federal Reserve Chair Jerome Powell made clear Wednesday the central bank is close to done raising interest rates, but his colleagues delivered the message that resonated: Borrowing costs must remain higher for longer amid renewed strength in the economy.
After a series of rapid rate hikes over the past 18 months, the Fed can now “proceed carefully,” Powell said — a sentiment he repeated at least a dozen times Wednesday during a press conference that followed the central bank’s decision to leave rates unchanged.
In quarterly economic projections released following a two-day policy meeting, 12 of 19 Fed officials said they still expect to raise rates once more this year. The bigger takeaway for investors was the revelation that policymakers see fewer rate cuts than previously anticipated in 2024, in part due to a stronger labor market.
The projections also showed they expect inflation to fall below 3% next year, and return to their 2% target by 2026. In other words, the “soft landing” for the US economy that looked more remote three months ago now seems within reach.
“They’re basically saying that a soft landing scenario is going to be met with tighter policy,” said Brett Ryan, a senior US economist at Deutsche Bank AG. “That was the main takeaway.”
The US economy has so far been resilient against the Fed’s historic tightening campaign, which lifted the target range for the federal funds rate from nearly zero in March 2022 to 5.25% to 5.5% in July, a 22-year high. Consumer spending remains strong and the labor market has been steady, though job growth is starting to moderate.
See also: Fed cuts rates by half point in decisive bid to defend economy
That strength bodes well for the Fed’s efforts to cool inflation without sending the economy into a recession, but it’s also raised concern at the central bank that the inflation fight could be prolonged.
The new projections reflected that. Fed officials now expect their benchmark rate to be at 5.1% by the end of next year, according to their median estimate, up from 4.6% in the last projection round in June.
During the press conference, Powell stressed that policymakers are facing a high amount of uncertainty, and seemed determined not to give markets any reason to rally.
See also: Fed to hold interest rates steady but start considering cuts
Treasuries sold off after the decision, with the yields on two-, five- and 10-year US government bonds all rising to the highest in more than a decade. Wednesday’s 0.9% drop for the S&P 500 was the second-worst this year on a Fed day, second only to the 1.7% decline registered in March.
“If you were really looking for the worst piece of news, it’s not necessarily that we’re going higher but that we’re staying longer — that’s the new narrative,” said Art Hogan, chief market strategist at B. Riley Wealth. “It’s not how high, but how long.”
The Fed chief also cautioned that a soft-landing scenario was not yet guaranteed, saying it was not the Fed’s baseline expectation — despite what the latest projections implied.
“Ultimately, this may be decided by factors that are outside our control,” Powell said, though he later added that a soft landing is “what we’ve been trying to achieve for all this time.”
With an array of potential economic headwinds on the horizon — including rising gas prices, a United Auto Workers strike and a looming government shutdown — investors remain skeptical that the Fed will follow through with another rate increase this year. Futures show roughly even odds of more tightening in 2023.
Lou Crandall, the chief economist at Wrightson ICAP LLC, said the economic picture may end up less favorable than what policymakers expect for the coming months.
“The odds are pretty good that unemployment in the fourth quarter will be higher than they project, and core inflation will be lower,” Crandall said. “The risk of another rate hike is pretty low.”
