WASHINGTON — The US economy may be ready for the Federal Reserve to raise its benchmark borrowing rate by the end of next year, the central bank’s Vice Chair Richard Clarida said Monday.
The comments were the clearest signal yet that the Fed is preparing the way for further steps to contain inflation and normalize monetary policy after last week announcing it would begin cutting back its pandemic stimulus.
“While we are clearly a ways away from considering raising interest rates,” Clarida said he believes the “necessary conditions for raising the target range for the federal funds rate will have been met by year-end 2022.”
The Fed slashed the rate to zero in March 2020 to help contain the economic crisis caused by the pandemic, and then began massive monthly bond purchases to keep credit flowing to businesses and households.
After its policy meeting last week, the central bank announced it would start to reduce those bond purchases each month until winding down the program completely by the middle of next year.
The world’s largest economy last year experienced “not only the deepest recession on record, but also the briefest,” Clarida said in a speech to the Brookings Institution, but added that growth in 2021 is expected hit the fastest rate since 1983.
‘Transitory’ price pressures
Prices, too, have risen as the economy recovered, caused by high demand, transportation bottlenecks and shortages of both components and workers.
That dynamic has created concerns that inflation will accelerate and the Fed would have to hike rates more aggressively next year.
While he acknowledged upside risks to inflation and said the disruptions have been “substantial,” Clarida said the “imbalances are likely to dissipate over time as the labor market and global supply chains eventually adjust and, importantly, do so without putting persistent upward pressure on price inflation and wage gains.”
The latest forecasts from member of the Fed’s policy-setting committee in September projected that a key inflation measure is expected to fall to just over two percent next year from 3.7 percent this year.
The Fed’s preferred price index hit a 12-month rate of 4.4 percent in September, with the “core” rate — excluding volatile food and energy prices — up 3.6 percent.
That represents much more than a “‘moderate overshoot” of the Fed’s inflation target, but most of it “will, in the end, prove to be transitory,” Clarida said.
But “there is no doubt that it is taking much longer to fully reopen a $20 trillion economy than it did to shut it down.”
The economy also is expected to recover the more than four million jobs still missing from before the pandemic, taking unemployment down to 3.8 percent by the end of 2022 from 4.6 percent last month.
“My expectation today is that the labor market by the end of 2022 will have reached my assessment of maximum employment,” he said, pointing to one of the key conditions needed before raising rates.
In the forecasts in September, more committee members projected the first rate hike to come next year.
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