MNI STATE OF PLAY: Fed Flags Potential Rate Liftoff In Spring

The Federal Reserve on Wednesday announced a faster end to pandemic-era bond purchases coming in March and signaled an interest-rate liftoff is on the table to come soon after, shifting focus to stubborn inflation while moving closer to maximum employment.

"Moving forward the end of our taper by a few months is really an appropriate thing to do and I think Omicron doesn't really have much to do with that," Chair Jerome Powell told reporters after the December FOMC meeting, expressing confidence the Covid-19 variant will not derail expected rapid U.S. growth. The USD30 billion per month wind-down of the monthly asset purchase program starting in January would would end the program in mid-March.

Powell said no decision has been taken on whether the Fed should pause between the end of taper and the first rate hike but there "will not be a need for a long delay" between the two. The FOMC's dot plot saw three interest rate increases in 2022, three more in 2023, and only two in 2024.

The FOMC's post-meeting statement provided adjusted forward guidance on short-term interest rates, dropping prior language on the desire to see higher inflation. Instead the Fed put more emphasis on employment, saying interest rates will remain at zero "until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment."

“We are making rapid progress toward maximum employment,” Powell said, adding the Fed could decide to hike before reaching maximum employment if inflation continues to rise more than expected. One disappointment has been lagging labor force participation, he said. The Fed now sees unemployment falling from 4.2% now to 3.5% next year and staying there through 2024.

LINGERING INFLATION, ASSET RUN-OFF

The statement also dropped the term "transitory" in describing inflation. “Supply and demand imbalances related to the pandemic and the reopening of the economy have continued to contribute to elevated levels of inflation” the Fed said in its statement, as MNI reported was likely.

Supply bottlenecks and shortages "have been larger and longer lasting than anticipated, exacerbated by waves of the virus," Powell said. Inflation will remain well above the central bank's 2% target "well into next year" in the Fed's view.

The FOMC also discussed runoff of the central bank's assets, Powell said. "We did have a balance sheet discussion, a preliminary discussion," he said about the December meeting. "And I expect we will have another at the next meeting and another at the next meeting."

"We looked back at what happened in the last cycle and people thought that was interesting and informative, but to one degree or another people noted that this is just a different situation," he said, noting a much stronger recovery now. "Those differences should inform the decisions we make about the balance sheet this time." Some analysts took this as a sign the central bank will allow maturing assets to roll off the balance sheet.

We "haven't made any decisions at all about when runoff would start in relation to when either liftoff happens or the end of the taper but those are exactly the the situations we'll be turning to in coming meetings," he said. The Fed's balance sheet has grown to USD8.7 trillion from USD4.2 trillion.