Inflation surge could push the Fed into more than four rate hikes this year, Goldman Sachs says

The Senate Banking, Housing and Urban Affairs Committee is holding a re-nominations hearing for the Chairman of the U.S. Federal Reserve Board.

The Federal Reserve could get even more aggressive in raising interest rates this year if inflation continues to rise, according to an analysis by Goldman.

Goldman economist David Mericle said that the omicron spread could push the Fed into a faster pace of rate increases, as the market already expects four quarter-percentage-point hikes this year.

Mericle said in a Saturday note to clients that their baseline forecast calls for four hikes in March, June, September and December. There is a chance that the Federal Open Market Committee will want to take some tightening action until the inflation picture changes.

The meeting of the policymaking group is just a few days away.

Markets think the committee will hike interest rates in March. It will be the first increase in the central bank's benchmark rate since December.

Raising interest rates would head off inflation, which is running at its highest 12-month pace in nearly 40 years.

Mericle said that the Covid spread has caused economic problems that have arisen. Even though unemployment benefits have expired and the labor market should have loosened up, wage growth is still high, particularly at lower-paying jobs.

Mericle wrote that they see a risk that the FOMC will want to take some tightening action until the picture changes. This raises the possibility of a hike or an earlier balance sheet announcement in May, and of more than four hikes this year.

The March meeting has a 95 percent chance of a rate increase, and a more than 85% chance of four moves in all of 2022, according to the data.

The market is starting to think about a fifth hike this year, which would be the most aggressive Fed that investors have seen going back to the turn of the century. According to the FedWatch gauge, there is a chance of a fifth rate increase.

The Fed is winding down its monthly bond-buying program with March as the current date to end an effort that has doubled the central bank balance sheet. Goldman does not think that the Fed will shut down the program at next week's meeting.

The Fed could give more information about when it will start to reduce its holdings.

Goldman predicts that the process will be done in 100 billion monthly installments. Shrinking the balance sheet is expected to take 2 or 212 years. Mericle said that the Fed may allow some proceeds from maturing bonds to roll off each month.

The unexpectedly strong and durable inflation run has posed upside risks to forecasts.

Mericle wrote that he believes the FOMC will want to deliver some tightening action at its May meeting, when the inflation dashboard is likely to remain quite hot. That could lead to more than four rate hikes this year.

After the Fed meets, there are a few key economic data points out.

The personal consumption expenditures price index, which is the Fed's preferred inflation gauge, is due out Friday and is expected to show a monthly gain of 0.5% and a year-over-year increase of 4.8%.