• Starting in January the Fed will accelerate the pace of tapering its purchases of long-term securities.
• At the current tapering pace, those purchases would wrap up in March 2022.
• The FOMC changed its language around inflation, dropping the word “transitory” and acknowledging that inflation has been well above the committee’s 2% objective “for some time.”
• In the dot plot, the median FOMC participant is now projecting three fed funds rate hikes in 2022, and another three in 2023. This is a substantial acceleration in the pace of tightening from September.

In its monetary policy statement on December 15, the Federal Open Market Committee announced that it is reducing its asset purchases at a faster pace. In January the Fed will reduce its purchases of long-term Treasurys by $20 billion (to $40 billion per month), and its purchases of mortgage-backed securities by $10 billion (to $20 billion per month). In December the central bank reduced its Treasury purchases by $10 billion per month and MBS purchases by $5 billion per month. The FOMC says it expects to continue to reduce its asset purchases at this pace; if so, the purchases of long-term securities would wrap up by the beginning of March 2022.

In its policy statement, the FOMC said that inflation has exceeded its 2% objective “for some time.” This is a big change from the previous statement, on November 3, which said that inflation had been “persistently below this [2%] longer-run goal,” and that the FOMC expected to “achieve inflation moderately above 2% for some time so that inflation averages 2% over time.”

In the December 15 statement the committee said that it “expects it will be appropriate to maintain the [current fed funds] target rate until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment.” The fed funds rate, the Fed’s key policy rate, is currently in a range between 0.00% and 0.25%. In the previous statement, on November 2, the FOMC said that it would keep the fed funds rate in this range until maximum employment has been achieved and “inflation has risen to 2% and is on track to moderately exceed 2% for time.” The significant change in the statement between November and December indicates that the FOMC believes that it has achieved the inflation portion of its dual mandate of full employment and long-run average inflation of around 2%.

The December 15 statement was approved unanimously.

This meeting included the release of the Summary of Economic Projects, or “dot plot.” According to the dot plot, the median FOMC participant expects to increase the fed funds rate to end 2022 in a range between 0.75% to 1.00%, suggesting three 25 basis point increases in the fed funds rate next year. The median funds rate at the end of 2023 is between 1.50% and 1.75%, implying another three 25 bps rate increases in 2023. This is a substantial change from the previous dot plot in September, which had the median participant split between either zero or one 25 bps increase in 2022, with another couple of rate increases in 2023.

Not surprisingly, the inflation projections (PCE price index) in the dot plot changed substantially from September to December. Now the median inflation rate in 2022 (Q4 to Q4) is 2.6%, up from 2.2% in September. But the dot plot still has inflation still slowing further over the next couple of years, close to the 2% average objective. There was a similar pattern in the projections for the core PCE price index, with higher inflation expected in 2022 and 2023 compared to September, but still a gradual slowing toward 2%.

The projection for the unemployment rate is also lower. The median projected unemployment rate is now 3.5% in each of the fourth quarters of 2022, 2023, and 2024; the median projected unemployment rate in the fourth quarter of 2022 was 3.8% in the September dot plot.

The dot plot indicated slightly better expected GDP growth in 2022, with a bit slower growth in 2023.

Median long-run values for GDP growth, the unemployment rate, inflation, and the fed funds rate were unchanged in the December dot plot compared to September.

High inflation in late 2021 has the FOMC changing its tune. The committee had previously been calling higher inflationary “transitory,” with much of the acceleration in inflation in mid-2021 being driven by mismatches between supply and demand coming out of the pandemic. But inflation has not slowed in late 2021 as expected, particularly on a year-ago basis. Thus, the FOMC is now more concerned about the potential that high inflation could last longer, raising the possibility that inflation could get stuck well above 2%. As a result, the FOMC decided to speed up the tapering of its purchases of long-term assets, preparing to wrap those purchases up early next year. Ending these purchases sooner will put reduce downward pressure on long-term interest rates, reducing the amount of support the Fed is supplying to the economy. And FOMC participants are now prepared to raise the fed funds rate a few times in 2022, whereas in September the median participants was expecting one rate hike at most.

Before today’s statement PNC’s baseline forecast was for two 25 bps fed funds rate increases in 2022, in September and December. Given today’s policy statement and the changes to the dot plot, PNC will reevaluate that forecast.

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