The Fed declined to raise interest rates today, as expected, but signaled that it may continue to tighten in the future. During the press conference, Chair Powell said that the path to the Fed’s 2 percent inflation target will be “lumpy” and “bumpy” but that good progress was made over the summer period. The FOMC acknowledges that it needs to proceed carefully, but continues to question whether it needs to raise rates further.  The Conference Board continues to expect one final 25 basis point rate increase in December and no cuts until mid-2024.

On the economy, the policy statement said that “economic activity expanded at a strong pace in the third quarter” and that job gains have “moderated” but “remain strong”. Powell did not appear to be overly concerned that the hot growth environment itself is driving inflation due to elevated post pandemic growth potential, but he did acknowledge that it could eventually pose a problem. He noted that the US consumer has exceeded expectations this year due to household balance sheet strength and improved access to goods and services. Risks to future growth were also discussed, with Powell noting that strikes, government shutdowns, and geopolitical developments in the Middle East and Eastern Europe were important to watch.

On prices, Powell said that inflation remains elevated. He noted that price increases have been moderating, but that additional progress would take time. He alluded to the September Summary of Economic Projections (SEP) when discussing the outlook, noting that inflation would be in the “twos” next year but wouldn’t likely hit target until 2025. We think this is too pessimistic and expect 2 percent will be achieved around the end of 2024.

Finally, on the recent spike in longer-duration treasury yields Powell said that the Fed is watching the situation closely. Powell noted that higher rates would help to further cool the economy and bring inflation under control. At present, he said the banking system remains “quite resilient” and that the Fed is working with financial institutions to ensure that they’re doing ok.

What were the Fed’s actions?

After implementing 525 basis points in hikes since March 2022, the FOMC elected to hold the federal funds rate window at 5.25 – 5.50 percent for a second consecutive meeting. Doing so, they argue, will allow the monetary tightening that has already been implemented more time to weigh on the economy. Rates remain deep in ‘restrictive’ territory (anything above 3 percent). The Fed’s “hawkish pause” is a way to remain vigilant about inflation and keep market pricing for rate cuts from undoing the work done so far to cool the economy and address high prices. The Fed also said that there will be no change to its ongoing plan to reduce the size of its balance sheet, which was first unveiled in May 2022. Today’s actions were unanimously approved by the members of the Federal Open Market Committee.

What does this mean for the US economy?

Today’s decision to keep rates steady was widely anticipated and the Fed’s tone about its future intentions did not change. In its policy statement, the FOMC said “recent indicators suggest that economic activity expanded at a strong pace in the third quarter.” According to Powell, while current growth rates are above trend the unique state of the post-pandemic economy means that potential growth is temporarily higher than usual. Thus, inflation can cool despite abnormally high GDP growth. He explained that recent improvements in things like supply chain kinks and the size of the labor force are allowing for a degree of “catch up” economic growth. He also said that while he does expect the economy to cool somewhat, the Fed staff have not reintroduced a recession into their in-house forecast.

Since the current tightening campaign was launched a year and a half ago The Conference Board has watched interest rates rise rapidly. Tighter monetary policy is cooling the overall economy but with a variable lags. While the labor market remains tight, other parts of the economy have been moderating, like capex. As the full impact of the Fed’s monetary policy tightening continues to weigh on businesses and consumers, inflation should continue to cool and economic activity will slow further. While a soft-landing is becoming increasingly possible, we continue to believe a short and mild recession next year is the more probable outcome.