The central bank will speed up its tapering of bond purchases, bringing the monthly drawdown to $30 billion versus $15 billion announced last month. This would conclude the tapering process in March, paving the way for earlier interest rate increases.
Fed officials now expect three quarter-point rate boosts in 2022 and further three rate increases in 2023. This is a significant shift from the September meeting.
The Fed completed its two-day Federal Open Market Committee (FOMC) meeting on Dec. 15, which was described by market analysts as the most important meeting of the year.
“In light of inflation developments and the further improvement in the labor market, the Committee decided to reduce the monthly pace of its net asset purchases by $20 billion for Treasury securities and $10 billion for agency mortgage-backed securities,” the FOMC statement reads.
“Beginning in January, the Committee will increase its holdings of Treasury securities by at least $40 billion per month and of agency mortgage‑backed securities by at least $20 billion per month,” Fed officials stated, noting that the central bank could adjust the pace depending on the economic outlook.
This reduces the asset purchases to $60 billion per month. The Fed had been buying $120 billion a month in treasuries and mortgage-backed securities from June 2020 to October 2021.
Speaking at a post-meeting press conference, Fed Chair Jerome Powell said the decision to phase out bond purchases more rapidly is driven by “elevated inflation pressures” and strong labor recovery.
Fed officials stated that they would hold the federal funds rate at a range of zero to 0.25 percent, in line with expectations.
“Job gains have been solid in recent months, and the unemployment rate has declined substantially,” the statement said.
“Supply and demand imbalances related to the pandemic and the reopening of the economy have continued to contribute to elevated levels of inflation. Overall financial conditions remain accommodative, in part reflecting policy measures to support the economy and the flow of credit to U.S. households and businesses.”
Powell indicated that a change in interest rates may come after March 2022 as rate increases wouldn’t be suitable while the Fed continues to purchase assets.
The Fed’s inflation projections increased for next year, with core inflation at 2.7 percent compared to the 2.3 percent forecast in September.
Powell said that a disappointing metric in the economic recovery has been labor force participation.
“It feels likely now that the return to higher participation is going to take longer,” he said.
While the unemployment rate significantly improved in recent months, millions of Americans are still hesitating to reenter the workforce. In November, the labor force participation rate stood at a 43-year low of 61.6 percent. The economy is running 4 million to 6 million workers short of its pre-pandemic level despite a near-record 11 million open jobs.
The Fed’s announcement is in line with recent market surveys. According to the latest CNBC Fed Survey results, economists, strategists, and money managers anticipated the central bank would stop its asset acquisitions by March 2022 and begin raising interest rates in June 2022.
Powell said the Fed isn’t behind the curve as many critics have argued, adding that the central bank is taking steps “in a thoughtful manner” to address issues, including surging consumer prices.
But will the Fed’s measures be enough to curb 39-year high inflation levels? Financial experts are split on the efficacy of the Fed doubling its pace of tapering the pandemic-era stimulus that was designed to cushion the blows from the economic fallout of COVID-19.
Can Federal Reserve Cure Inflation?
Many top Fed officials are split on what the central bank can do to stop inflation in its tracks.
In his final appearance before exiting the institution later this month, Fed Governor Randal Quarles presented the case for accelerating the central bank’s tapering plans and boosting interest rates to cool the myriad of price pressures situated in the economic recovery.
“I certainly would be supportive of a committee decision to move the end of the taper forward from where people have been expecting it in June,” Quarles stated during an American Enterprise Institute (AEI) webcast earlier this month.
San Francisco Fed President Mary Daly disagrees that the central bank should start increasing short-term rates, telling the Commonwealth Club in San Francisco that “pre-emptive action isn’t free” and that “there are costs.” Daly doesn’t expect high inflation will persist.
“I expect inflation to moderate as the pandemic recedes,” Daly said last month, adding that the outlook for the next nine months is too uncertain to justify action.
For some critics, it could be tough for the Fed to regain its credibility after declaring inflation to be a temporary reaction to the reopening for much of this year.
Peter Schiff, president and CEO of Euro Pacific Capital, told Yahoo Finance that not much can be done to cure inflation because the Fed has “spent years creating this problem. The cat’s out of the bag.”
Schiff suggested that the only way the Fed could cease exacerbating these issues is if it stopped “printing money right now.”
“They won’t do that, of course, because it would create the worst financial crisis since 2008,” he said.
Ryan McMaken, an economist and senior editor of the Mises Institute, questioned if the Fed allowing the federal funds rate to climb by even 50 basis points would make much difference, telling The Epoch Times that the body has been “remarkably behind the curve.”
After an extended period of historically low interest rates and about $9 trillion in asset purchases, he said the Fed could trigger a selloff in the financial markets and transform inflation into deflation.
“It appears the economy is so fragile now—and so dependent on central bank stimulus—that we have no idea if the market can possibly avoid collapse without ongoing injections of fed money designed to keep rates low and asset demand high,” McMaken said.
For nearly all of 2021, the Fed and the Treasury Department insisted that inflation was transitory, citing the global supply chain crisis and a reopening economy resulting in simultaneous global demand.
Powell and Treasury Secretary Janet Yellen officially retired the term in recent testimony to Congress.
“And we are heading into a 2022 midterm election year. And I think that the pressure is building to try to get some of these price pressures off of the constituents.”