Fed will accept a recession in the name of inflation fighting

When the Federal Reserve ends its two-day meeting Wednesday, what it says it can do in the future will be the most important thing.

The Fed is expected to raise rates for the third time in a row. New forecasts for inflation, the economy, and the path of interest rates will be released Wednesday. There is an hour and a half later.

The Fed's projections are always important, but this time they are even more so because investors have been trying to game how high the Fed will raise interest rates.

The chairman of the Fed is speaking. He is expected to say that the Fed will do what it takes to fight inflation and that it is unlikely to reverse its rate hikes anytime soon.

Federal Reserve Board Chairman Jerome Powell speaks during a news conference following a two-day meeting of the Federal Open Market Committee (FOMC) in Washington, July 27, 2022.

Rick Rieder is the chief investment officer for global fixed income at BlackRock. He is going to talk tough.

As the central bank moves into a rate hiking zone that some economists think will be more restrictive, the Fed has revised its forecasts.

It isn't what they do but what they say. This is the first road map we've had to tighten. Until now, we had theoretical road maps, but from the Fed's point of view, they're crossing into a world of tightening Diane Swonk said that is an important thing.

When inflation was low, the neutral zone was considered to be the Fed's target rate, but now it will be higher. The interest rate level known as neutral is the one where Fed policy is not easy but not restrictive. If the Fed raises by three-quarters of a point, the fed funds will be in a range of 3% to 3%.

This is moving into a restrictive monetary policy area. Swonk said that they would be moving into no man's land. Since the early 1980s, we haven't tightened policy. Their goal is for the economy to slow down and the unemployment rate to go up. The issue of whether they get there is something else.

Rate expectations jumped

The economists have raised their forecasts for how high they think the Fed will go before stopping rate hikes. The terminal rate is the level at which it's at.

The August consumer inflation report caused expectations for Fed tightening to increase. The terminal rate for Fed funds was 4.5% on Monday, up from 4% before the consumer price index was released.

Economists had expected the inflation rate to decline in August.

Peter Boockvar is the chief investment officer at Bleakley Advisory Group. The stock market has been selling off and bond yields have gone up. The yield on the 10-year Treasury rose to 3.59% on Tuesday.

The terminal rate for fed funds was predicted by the Fed in June.

The terminal rate is expected to be raised by the Fed. If the Fed wants to get more aggressive in its inflation fight, Citigroup economists said they could see a scenario where it goes above 5%.

The median forecast of Fed officials is for the funds rate to be 4% to 4% at the end of the year, with another hike to a peak of 4% to 4.5% in the years to come. There will be two more cuts in 2025.

Labor market pain

Swonk thinks that the unemployment rate will go up to over 5% by the end of next year.

The unemployment rate in August was forecast by the Fed to be 3.7% this year. The unemployment rate was expected to go up to 4.1% by the end of the decade.

The unemployment rate is going to be a bit light. Jim Caron is the head of macro strategies for global fixed income at Morgan Stanley. They are in the camp of 'We don't have to do that'.

The risk of a recession will increase as a result of the Fed's rate hikes.

He said that increasing recession risks lowers inflation risks because it reduces demand in the economy. Slower growth is the result of the sacrifice.

Some investors think the Fed will raise rates by a full percentage point, but most economists think it will raise rates by 75 basis points. The basis point is the percentage point.

The 75 basis points is baked into the cake. The reality is people are still going to look at them for forward guidance, but they don't want to do it.

‘Out-hawk’ the market

Powell's tone has changed this summer. He warned the economy could be in for pain from Fed tightening in a speech at the Jackson Hole symposium. The chairman made it clear that the Fed will use economic data. The Fed will keep rates high.

Michael Gapen, chief U.S. economist at Bank of America, thinks the message will be similar to Jackson Hole. It will be about getting policy restrictive and getting it there for a period of time.

It is possible that Powell sounded dovish because the Fed has been very aggressive.

The third one in a row is pretty darn hawkish. I don't think they have to do a lot of work.