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Fed could push rates higher, keep them there longer, policymakers say


New York Federal Reserve President John Williams speaks at an event in New York, U.S., November 6, 2019. REUTERS/Carlo Allegri/File Photo

Federal Reserve policymakers may need to lift U.S. borrowing costs above the peak 5.1% they penciled in just this week, and keep them there into 2024 to slow the labor market enough to squeeze high inflation out of the economy, two of them signaled on Friday.

The hawkish messages, delivered in separate appearances by New York Fed President John Williams and San Francisco Fed President Mary Daly, underscore the U.S. central bank’s determination to do what it takes to ease price pressures that erode wages and impose an especially high tax on lower-income Americans.

They also stand in stark contrast with expectations expressed in financial markets. Traders on Friday leaned into bets that the Fed policy rate will peak below 5% and the Fed will start cutting rates in the second half of 2023 to cushion what the New York Fed’s own internal model suggests will be an economic downturn.

Williams said he’s not expecting a recession, but told Bloomberg TV “we’re going to have to do what’s necessary” to get inflation back to the Fed’s 2% target, adding that the peak rate “could be higher than what we’ve written down.”

The Fed this year has raised rates from near zero in March to a range of 4.25%-4.5% in the steepest round of rate hikes since the 1980s, the last time it battled fast-rising prices. Inflation by the Fed’s preferred measure is currently running at 6%, three times its 2% target.

Earlier this week as policymakers delivered the latest rate hike they also published projections that signaled nearly all of them see the need to lift rates still further, to a 5%-5.25% range, in coming months.

Inflation has cooled in recent months, as supply chain problems eased and higher interest rates have restrained the housing market.

But the labor market has remained strong, with employers adding hundreds of thousands of jobs each month and the unemployment rate at a low 3.7%. With workers in short supply, particularly after millions retired early on in the pandemic, wage growth is running well beyond what the economy can sustain, and adding to upward price pressure, policymakers say.

Central bankers have become increasingly blunt that bringing inflation down will require a labor market slowdown that they will not try to offset with interest-rate cuts until they are confident they have beaten back inflation.

Over the past several rate-hiking cycles, the Fed raised rates and kept them there for an average of 11 months before cutting them.

“I think 11 months is a starting point, is a reasonable starting point. But I’m prepared to do more if more is required,” San Francisco Fed chief Daly said, adding that exactly how long will depend on the data. She said her own forecast for rates is in line with the 5.1% peak rate expected by the majority of her colleagues.

While the Fed is seen likely to raise rates at its next couple of meetings, Daly’s remarks suggests rates could stay high into the first couple of months of 2024 – even as the Fed predicts the unemployment rate will rise to 4.6%, an increase that analysts say could mean the loss of 1.5 million or more jobs.

As of last month, central bank staff economists viewed the risks of recession against continued growth as roughly even, minutes from the Fed’s November policy meeting show.

Meanwhile, on Thursday, the New York Fed said its internal economic model sees a 0.3% decline in overall activity next year and flat growth in 2024, with a return to positive growth the year after.

Fed policymakers this week forecast GDP growing about a half-a-percent next year.

In his news conference after the end of the Dec. 13-14 policy meeting, Fed Chair Jerome Powell nodded to the challenges that higher unemployment, if not necessarily a recession, would pose.

“I wish there were a completely painless way to restore price stability,” he said. “There isn’t, and this is the best we can do.”