Fed’s outlook darkens as it pushes interest rates higher

Jerome Powell, chairman of the Federal Reserve, spoke during a news conference Wednesday.Sarah Silbiger/Bloomberg

Delivering its latest assessment of the economy, the Federal Reserve on Wednesday reiterated its resolve to get inflation under control, but warned of a painful slowdown, with higher unemployment and falling home prices, as it pushes interest rates even higher than previously forecast.

“We have got to get inflation behind us. I wish there were a painless way to do that. There isn’t,” Fed Chairman Jerome Powell told a press conference after central bank officials approved their third straight supersize rate increase, and indicated additional hikes would come later this year.

The Fed’s goal is to rein in the worst inflation since the early 1980s by stifling consumer demand with tighter credit and making it more expensive for businesses to borrow for expansion. Powell has said a “soft landing” for the economy is possible, but economists say risks are mounting that policy makers clamp down too hard too fast, causing a recession.

The central bank released new forecasts on Wednesday that show the economy barely growing this year.

After meeting in Washington for two days, Fed officials voted to hike their benchmark federal funds rate by three-quarters of a percentage point, matching increases implemented in June and July. The rate impacts the cost of a broad range of borrowing, including credit cards, mortgages, and business loans.

Officials raised the fed funds rate to a range of 3 to 3.25 percent, up from near-zero in March. It’s the quickest run-up in four decades, and came after the Fed was slow to react to rising inflation last year. Powell said rates would continue to rise into next year.

His blunt comments sent stock prices tumbling. The Standard & Poor’s 500 index fell 1.7 percent, bringing its loss since setting a record at the start of January to more than 20 percent.

The yield on the two-year Treasury rose to 4.05 percent, exceeding the yield on the 10-year Treasury. That extended a so-called inversion — rates on short-term notes are usually lower than on longer-term debt — that has been a reliable predictor of recessions in the past.

Despite the sharp drop in gasoline prices since mid-June, inflation is roiling global economies. Central banks in Canada, Europe, and elsewhere are also tightening credit in a bid to curb the high demand for goods and services that, along with COVID supply disruptions, has driven up prices and wages.

Powell told a meeting of global central bankers last month that higher rates would pull inflation lower, while slowing economic growth and taking some of the sizzle out of the job market. That would “bring some pain to households and businesses,” he said, “but a failure to restore price stability would mean far greater pain.”

Powell repeated that theme on Wednesday, and the Fed’s new projections were far gloomier than their outlook in June.

Unemployment will rise to 4.4 percent by the end of the year and remain there through 2023, according to the median estimate of members of the rate-setting Federal Open Market Committee. That compares with unemployment of 3.7 percent last month.

“We’ve never had an unemployment rate go up by that much without a recession,” said Eric Rosengren, former president of the Federal Reserve Bank of Boston and a visiting scholar at the Golub Center for Finance and Policy at MIT.

Rosengren estimated that the jobless rate would have to hit “a bit more than 5 percent for the Fed to reach its inflation target.”

That target is 2 percent over the longer term, as measured by the Fed’s preferred gauge, the Personal Consumption Expenditures Index. PCE stood at 6.3 percent in July.

The fresh Fed projections made clear that officials expect a long slog to meet their inflation goal, with PCE falling to 5.4 percent by December, 2.8 percent next year, and 2.3 percent by the end of 2024.

Higher rates have already had an impact on the economy, especially the housing market, where rates on 30-year fixed mortgages have doubled to more than 6 percent. Home sales are falling, houses are sitting longer on the market, and price growth is slowing in some markets and dropping in others.

“We’ve had a time of a red-hot housing market all over the country,” Powell said. “The deceleration in housing prices that we’re seeing should help bring prices more in line with rents and other housing-market fundamentals. And that’s a good thing.”

Housing market downturns often precede recessions, but Powell stopped short of saying the economy would contract.

The Fed’s projections call for growth in gross domestic product of just 0.2 percent this year, down from 1.7 percent in its June estimate.

Rosengren, the former Fed official, said Powell was understandably reluctant to give up hope of a soft landing.

“It’s hard to say that you waited so long that you will have to cause a recession to fix the problem,” he said. “Hopefully, the downturn is moderate.”