The Fed, under Jerome H. Powell, implemented a rigorous campaign to curtail inflation, including a series of ten consecutive interest rate hikes over 15 months. Following this aggressive strategy, at yesterday's FOMC meeting, the Fed decided to leave interest rates unchanged, pausing to assess the impact of its actions on the economy. Even though the targeted federal funds rates remained in the 5 to 5.25 percent range, we expect at least two additional hikes by the end of 2023, moving the upper limit of fed funds to 5.6 percent.
Powell emphasized that despite this pause, the central bank released updated economic forecasts predicting an end-of-the-year inflation rate of 3.2% (3.9% ex food and fuel). The stubbornness of price increases remains a cause for concern. Given the role excessive corporate profits play in elevating inflation, we have suggested targeting this problem by raising interest rates only of firms with elevated and excessive profits.
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| Corporate Profits and Inflation, July 2022. |
The central bank has also made a surprising projection for unemployment, expecting 4.1 percent by the end of the year. Though this is higher than May's 3.7% rate, it is still lower than the March forecast of 4.5%. The resilience and strength of the labor market is a positive sign, though it does pose additional challenges for the Fed's inflation control efforts.
Currently, the Fed's main challenge is determining how much higher rates must rise to slow the economy enough to reduce inflation. As Powell stated, a moderate pace of rate increases might be the next strategic step. In light of the Fed's decisions, investors reacted with trepidation, but market fluctuations moderated as Powell reassured that additional rate increases were expectations, not promises.
Looking back to the second quarter of 2022, we saw a 0.6% decrease in real GDP, an improvement from a 1.6 percent decrease in the first quarter, 2022. An upturn in exports and a smaller decrease in federal government spending helped offset the decline in GDP. Furthermore, corporate profits increased by 6.1 percent, rebounding from a decline of 2.2 percent in the previous quarter. As we stated then, "the Fed may get its 'soft landing' after all."
Amidst negative media, these factors continue to suggest a positive economic trajectory. The Fed's future success will depend, of course, on subsequent monetary policy decisions. As it stands now, however, the Fed is on track to achieve its elusive "soft landing," demonstrating a skillful balancing act amidst challenging social and economic conditions.