Rate Hikes May Come Sooner Than Expected, Fed Says

Plus - Yellen says it's time to go big  [The Fisc](   By Yuval Rosenberg and Michael Rainey Rate Hikes May Be Coming Sooner Than Expected, Fed Says The Federal Reserve announced Wednesday that it was keeping interest rates near zero for now but indicated that it may raise rates sooner than previously expected in response to strong growth and rising inflationary pressures. “Progress on vaccinations has reduced the spread of COVID-19 in the United States,” the Federal Open Market Committee said in a [statement](. “Amid this progress and strong policy support, indicators of economic activity and employment have strengthened.” The Fed raised its estimate of economic growth to 7% for 2021, which would be the fastest annual rate since 1984. Growth is expected to drop off after this year, falling to a still robust 3.3% in 2022 and 2.4% in 2023. The rapid growth has been accompanied by higher-than-expected inflation as the economy struggles to get back on its feet, and central bank officials now see the inflation rate rising to 3.4% by the end of the year, a full percentage point higher than the previous estimate in March. Still, the Fed said it continues to believe that the spike in inflation is temporary, “largely reflecting transitory factors” such as supply shortages and labor market dislocations. The headline inflation rate is projected to drop to 2.1% in 2022 and 2.2% in 2023. With respect to interest rates, the [projections]( provided by the Fed indicate that a majority of FOMC officials now expect to raise the benchmark short-term rate two times by the end of 2023, to 0.6%. In March, projections showed interest rates staying near zero into 2024. Holding steady on support: The FOMC said it remains committed to purchasing at least $80 billion of Treasury securities every month, as well as $40 billion in agency mortgage‑backed securities, with those purchases continuing “until substantial further progress has been made toward the Committee's maximum employment and price stability goals.” At a press conference, Fed Chair Jerome Powell that “policy will remain highly accommodative” even as the economic numbers improve. Inflation has been below the 2% target rate for years, Powell said, and the bank does not want to slam on the brakes just because inflation climbs above the target for a period of time. An inflation rate above the target could still be in line with the bank’s long-term goals, as long as the average is still on target. At the same time, the Fed is ready to act if inflation moves higher than expected over a longer period. “If we saw signs that the path of inflation or longer-term inflation expectations were moving materially and persistently beyond levels consistent with our goal, we'd be prepared to adjust the stance of monetary policy,” Powell said. The bottom line: The economy is recovering rapidly but is not yet out of the woods. While inflation is higher than expected, the Fed plans to give the economy plenty of room to run rather than risk a premature tightening. Number of the Day: 5.3% Social Security’s cost-of-living adjustment for 2022 could be 5.3%, the highest since 2009, according to the latest [estimate]( by The Senior Citizens League, a non-partisan senior group. The estimate, highlighted by [CNBC]( reflects rising consumer prices since it is based on Consumer Price Index data from the Bureau of Labor Statistics through May. Social Security beneficiaries received a 1.3% increase for 2021. The final adjustment for next year will depend on the path of the economy in the months ahead and won’t be known until October. It’s already clear, though, that the adjustment is likely to be the highest in years. Yellen Tells Lawmakers Now Is the Time for ‘Ambitious Fiscal Policy’ Treasury Secretary Janet Yellen on Wednesday defended President Joe Biden’s proposed $6 trillion budget for 2022, telling lawmakers on the Senate Finance Committee that now is the time to embrace an “ambitious fiscal policy” to help reverse “destructive forces” like inequality, declining labor force participation and climate change. Yellen said in testimony before the Senate panel that the U.S. economy is “well on the way” to a strong recovery from the Covid-19 pandemic, but that the private sector does not make enough of the kinds of investments needed to reverse the nation’s structural economic challenges. The nation has underinvested in those areas for 40 years, she said. “We need to make these investments at some point, and now is fiscally the most strategic time to make them,” Yellen said. “We expect the cost of federal debt payments will remain well below historical levels through the coming decade. We have a window to invest in ourselves.” Yellen added that Biden’s budget “is both fiscally strategic and fiscally responsible,” arguing that the president’s proposed tax hikes on the wealthy and corporations would both pay for his spending plans over time and make the tax code fairer. “There are some tough trade-offs in fiscal policy, but this – a fairer tax code for a structurally sound economy – is not one of them,” she said. Republicans take aim at Biden’s tax and spending plans: Republicans on the panel criticized Biden’s economic agenda and warned that the resulting near-term increases in the national debt could be dangerous. Republicans, and some economists, fear that a surge of trillions in federal spending could overheat the economy and drive a longer-term rise in inflation, potentially forcing the Federal Reserve to raise interest rates. “The administration’s proposals to increase spending, hit Americans with higher taxes and strangle the economy with regulations and red tape is not a path to prosperity,” said Sen. Mike Crapo (R-ID), the top Republican on the committee. “The President’s budget envisions deficits of $14.5 trillion over the next decade, with debt exploding to more than $39 trillion, or 117 percent of GDP, by the end of fiscal year 2031. Such high debt is risky, especially in the current high inflation environment. … If inflation expectations become unanchored, which no one can credibly claim cannot happen, the resulting increased interest rates can turn federal debt service costs into budget busters.” Yellen reiterates that inflation will be temporary: The Treasury Secretary said that the administration was closely watching inflation and that she still believes that the current price pressures will dissipate as the pandemic recedes and the economy returns to normal. “Most economists think the current burst of inflation we have seen reflects the difficulties of re-opening an economy that has been shut down,” Yellen said. She acknowledged, though, that inflation this year will be higher than the 2% rate the Biden administration projected in February. "We're monitoring inflation very carefully and take it very seriously. No one wants to return to the bad high inflation days of the '70s," she said. Several Republicans also took issue with the Biden administration’s proposals to ramp up Internal Revenue Service funding to increase enforcement and shrink the “tax gap,” the amount of taxes that goes unpaid, which the administration estimates will total $74 trillion over the next decade. And they questioned the administration’s push for a [15% global minimum corporate tax]( which the G7 nations agreed to earlier this month. “That’s not a race to the bottom that we should try to prevent,” Sen. Pat Toomey (R-PA) said. “That’s a race we ought to be winning.” Quote of the Day: Biden Says He Hasn’t Seen Details of Bipartisan Infrastructure Deal “I honestly haven't seen it. I don't know what the details are. I know that my chief of staff thinks there's some room, that there may be a means by which to get this done, and I know that [Chuck] Schumer and Nancy [Pelosi] have moved forward on a reconciliation provision as well. So I'm still hoping we can put together the two bookends here." – President Biden, in response to a question Wednesday about the bipartisan infrastructure deal negotiated by 10 senators. Biden has spent the past week in Europe, meeting with the leaders of the G7 nations and holding a summit meeting today with Russian President Vladimir Putin. The senators behind the deal are [still working]( to secure the support of Democratic and Republican leaders and the White House. Send your feedback to yrosenberg@thefiscaltimes.com. And please tell your friends they can [sign up here]( for their own copy of this newsletter. 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