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The US Federal Reserve will need to take tougher action than expected to root out inflation, according to a majority of leading academic economists polled by the Financial Times, who predict at least two more quarter-point interest rate increases this year.
The latest survey, conducted in partnership with the Kent A Clark Center for Global Markets at the University of Chicago Booth School of Business, predicts the Fed will lift its benchmark rate to at least 5.5 per cent this year. Fed funds futures markets suggest traders favour just one more quarter-point rate rise in July.
Top Fed officials have signalled a preference for forgoing a rate rise at their next two-day meeting on Tuesday, while keeping the door ajar to further tightening. After 10 consecutive increases since March 2022, the federal funds rate now hovers between 5 per cent and 5.25 per cent, the highest level since mid-2007.
Of the 42 economists surveyed between June 5 and June 7, 67 per cent forecast the federal funds rate to peak between 5.5 per cent and 6 per cent this year. That is up from 49 per cent in the previous survey, which ran just days after a string of bank failures in March.
More than half of the respondents said the peak rate will be achieved in or before the third quarter, while just over a third expect it to be reached in the final three months of the year. No cuts are expected until 2024, with the bulk forecasting the first in the second quarter or later.
“They haven’t done enough for long enough yet to get inflation down,” said Dean Croushore, who served as an economist at the Fed’s Philadelphia Reserve Bank for 14 years. “They are on the right path, but the path is going to be longer and more tortuous than they ever thought.”
Despite mounting expectations that the Fed is not yet done with its tightening campaign, most of the economists thought the Fed would skip a June move. Moreover, nearly 70 per cent said that doing so would be the right call because it was not yet clear if the policy rate is high enough to get inflation down and that officials could also resume increases if necessary.
“The economy turned out to be much more resilient than we originally thought and the question is: is that resilience temporary and the hikes in the pipeline are sufficient or does the Fed need even further hiking? The Fed is pausing to see if it can get a better read on which of those two is correct,” said Jonathan Parker at the Massachusetts Institute of Technology’s Sloan School of Management. Still, he is of the view that the Fed will deliver at least two more quarter-point rate rises.
An added complication is the pullback by regional lenders following the collapse of Silicon Valley Bank, First Republic and a handful of other institutions. Arvind Krishnamurthy at the Stanford Graduate School of Business said the economic effects are highly uncertain but that clearly a credit crunch is under way, suggesting the Fed may not need to do as much in terms of further rate rises to get the same inflation outcome.
Among respondents, however, concerns about inflation appeared to outweigh banking sector worries. Compared with March, the median estimate of the personal consumption expenditures price index once food and energy costs are stripped out — the Fed’s favoured inflation gauge — moved 0.2 percentage points higher to 4 per cent by year-end. As of April, it registered a 4.7 per cent annual pace, well above the Fed’s 2 per cent target.
By the end of 2024, roughly a third of the respondents said it was “somewhat” or “very” likely that core PCE would exceed 3 per cent. More than 40 per cent said it was “about as likely as not”.
“There has barely been any progress on core inflation, the real economy is performing vastly better than anyone could possibly have expected and policymakers have yet to fully adjust to that reality,” said Jason Furman, who previously served as an economic adviser to the Obama administration. He reckons the central bank will need to lift the fed funds rate to at least 6 per cent, a view held by 12 per cent of those surveyed.
The biggest factors driving down the rate of inflation will be rising joblessness and falling wage gains, 48 per cent of the economists said, followed by global headwinds stemming from a weakening Chinese economy and strong US dollar. Most economists do not expect an imminent, material jump in the unemployment rate, however. The median estimate for year-end stands at 4.1 per cent, slightly higher than its current 3.7 per cent level.
Recession calls have been pushed back as well. Most economists do not see the National Bureau of Economic Research declaring one until 2024, compared to surveys conducted last year in which roughly 80 per cent expected a recession in 2023.
About 70 per cent said the peak unemployment rate in a forthcoming recession would not be reached until the third quarter of 2024 or later. Gabriel Chodorow-Reich of Harvard University said he is bracing for a mild recession in which unemployment rises to about 6 per cent.
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