Fed signals interest rates will stay near zero at least through 2022 amid COVID-19

Fed signals interest rates will stay near zero at least through 2022 amid COVID-19

Despite last week’s blockbuster jobs report, the Federal Reserve is keeping its foot on the gas as it responds to economic damage from the coronavirus pandemic that could linger for years.

The Fed on Wednesday held its key interest rate near zero and signaled it likely won’t lift it until at least 2022, noting the outbreak “will weigh heavily on economic activity” and “poses considerable risks to the economic outlook.”

Revising its forecasts for the first time since December, the Fed predicted the economy will contract by 6.5% in 2020, marking its worst performance since the end of World War II, and unemployment will end the year at 9.3%.

In a statement after a two-day meeting, the Fed didn’t acknowledge the economy’s unexpected 2.5 million job gains in May as states began allowing nonessential businesses shuttered by the pandemic to reopen in phases.

But it acknowledged the stock market’s recent rally. “Financial conditions have improved, in part reflecting policy measures to support the economy and the flow of credit to US households and businesses.”

Although the jobs rebound started a month sooner than anticipated, a record 22 million jobs were lost in March and April, wiping out all of the gains since the Great Recession of 2007-09.

Even after deploying most of its arsenal since March, the Fed’s policymaking committee renewed its pledge to do whatever it takes to dig the economy out of a hole that remains historically deep.

“The Federal Reserve is committed to using its full range of tools to support the U.S. economy in this challenging time, thereby promoting its maximum employment and price stability goals,” the Fed said in a statement after a two-day meeting.

The central bank also repeated its vow to keep its key short-term rate at a range of zero to 0.25% “until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.”

In their median estimate, Fed policymakers indicated they expect the federal funds rate to stay near zero through their forecast horizon ending in 2022. All 17 officials forecast no rate hike next year and just two predicted higher rates by the end of 2022 – a near-unanimous agreement that should cheer markets. Over the long run, policymakers expect the key rate to climb back to 2.5%, similar to their December forecast.

By September, economists expect the Fed to provide more specific guidance, promising to keep rates near zero for a certain time period or until unemployment drops to about 4.5% and inflation rises to its 2% target. The central bank also could cap yields on short-term Treasury bonds that otherwise might rise in response to the more than $3 trillion in coronavirus relief spending Congress has added to an already massive national debt.

A snapshot of the Fed’s sharply downgraded projections:

The economy

Fed policymakers predict the economy will contract 6.5% this year before rising a healthy 5% next year and 3.5% in 2022. Still, Moody’s Analytics doesn’t expect the nation’s inflation-adjusted gross domestic output – all the goods and services it produces -- to return to its pre-pandemic peak until the second quarter of 2021.

After contracting at a 5% annual rate in the first quarter, GDP is set to plummet at a record 30% to 40% in the current quarter before mounting a strong but partial recovery the second half of the year.

Although states are reopening, many consumers have said they’ll remain leery of visiting restaurants, stores, movie theaters and other gathering spots until a vaccine is widely available, possibly by mid-next year.

Jobs

Unemployment is projected to fall from 13.3% to 9.3% by the end of the year, 6.5% by the end of 2021, and 5.5% by the end of 2022, according to the Fed’s median estimate. But some perspective: In February, unemployment was at a 50-year low of 3.5%. While Moody’s expects the jobless rate to continue falling, it doesn’t reckon it will edge below 4% for the foreseeable future.

The research firm figures the economy this year will recoup about half the jobs lost from the outbreak, and employment won’t return to its pre-pandemic level until late 2023. Many businesses are shutting down permanently despite trillions of dollars in government aid and as many as half of laid-off workers aren’t likely to return to their former employers, economists say.

Inflation

The Fed estimated its preferred measure of annual inflation will end the year at just 0.8%, down from its 1.9% forecast in December, and rise to 1.6% by the end of 2021. A core measure that strips out volatile food and energy items is expected to close the year at 1% before rising to 1.5% by the end of 2021. That’s still well below the Fed’s 2% goal.

Consumer price increases were already meager before the pandemic, held down by online bargains, the globally-connected marketplace and shoppers’ expectations for low prices. The pandemic sapped demand for oil and gasoline as Americans cut back driving and forced airlines, hotels and other businesses to push down prices further.

Feeble inflation gives the Fed more leeway to leave rates at rock bottom levels.

Besides lowering its key rate to near zero, the Fed has purchased more than $2 trillion in Treasuries and mortgage-backed securities to resuscitate markets for those assets that had frozen amid widespread fears. The purchases also have helped pushed down long-term rates for mortgages, corporate bonds and other loans.

The central bank also has launched a flurry of extraordinary programs to provide financing in strained lending markets, including corporate bonds; small and midsize businesses: student, auto and credit card loans; and states and cities.

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Federal Reserve Building

Source: https://www.usatoday.com/story/money/2020/06/10/fed-interest-rate-fed-holds-rates-near-zero-signals-no-hike-through-2022/5330851002/

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