The Federal Reserve could raise interest rates as early as March in the face of “alarmingly high inflation”, according to a senior US central bank official.
Christopher Waller, a Fed governor, on Friday endorsed the central bank’s decision this week to accelerate how quickly it scales back its asset purchase programme so that the stimulus ends altogether several months earlier than initially outlined in November.
The revised schedule would bring the stimulus to an end in March, soon after which the Fed should raise interest rates, he said at an event hosted by the Forecasters Club of New York.
“I believe an increase in the target range for the federal funds rate will be warranted shortly after our asset purchases end,” he said. “March is a live meeting for the first rate hike.”
He later added that the Fed could begin shrinking the size of its balance sheet by the summer.
Earlier on Friday, John Williams, president of the New York Fed, said speeding up the “taper”, or the reduction of the stimulus programme, was “exactly the right thing to do”, given that it would give the central bank more flexibility to raise rates earlier, but he stopped short of specifying a date for it to begin.
“It’s really about getting our monetary policy stance in a good position and also obviously creating the optionality, at some point next year likely, to actually start raising the federal funds target range,” Williams said in an interview with CNBC.
According to projections released by the Fed this week, officials expect three interest rate increases in 2022, followed by three more in 2023. A two-notch adjustment is also pencilled in for 2024, bringing the main policy rate closer to 2 per cent.
The forecasts suggest a dramatically faster pace of interest rate rises next year than Fed officials were anticipating when they last released projections three months ago.
They come after strong economic data and clearer signs that inflation is becoming a more persistent problem, spreading into sectors beyond those most sensitive to pandemic-related disruptions.
“We’re very focused on inflation; it is obviously too high right now,” Williams said on Friday. “We want to make sure inflation comes back down to our 2 per cent longer-run goal.”
Waller, who characterised inflation as “alarmingly high”, said he thought the economy was “closing in on maximum employment” — the last condition to be met before the Fed will proceed with increasing rates.
Current market pricing suggests that, by taking an aggressive stance early to counteract mounting price pressures, the Fed will be limited in its ability to raise rates significantly later on as economic growth falters.
Implied rates on Sofr and Eurodollar contracts between 2024 and 2026 now hover under 1.5 per cent, well below the long-run 2.5 per cent target expected by a majority of Fed officials.
Williams provided some reassurance on Friday, saying that he felt “confident” the Fed could deliver “stable low inflation” without causing a sharp contraction in economic growth.
He said higher interest rates should actually be taken as an indication of how strong the economy was.
“I go into next year feeling [like] the baseline outlook is a very good one,” he said. “Therefore, actually raising interest rates would be a sign of a positive development in terms of where we are in the economic cycle.”
Williams predicts continued “strong improvements” in the labour market, which is beginning to regain its momentum. The unemployment rate sits at 4.2 per cent.
Fed officials expect it to drop to 3.5 per cent next year, with the inflation rate still elevated at 2.7 per cent and the economy expanding at 4 per cent.
Waller flagged the Omicron variant as a “big uncertainty”.
“We also do not know if Omicron will exacerbate labour and goods supply shortages and add inflation pressure, derailing the moderation of inflation next year that is my baseline,” he said.