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There is a growing chance that the Federal Reserve may have to be more aggressive with interest rate hikes than markets or the central bank now expect, said Karen Dynan, a fellow at the Peterson Institute for International Economics.
Dynan said there is now a small chance the Fed will hike its benchmark interest rate in the middle of 2022.
“I would put a probability of a 20% chance that they’re going to have to hike earlier, in the middle of year” because of persistent supply bottlenecks, Dynan said, during a discussion of the U.S. and global economic outlook.
Dynan said she expects high inflation to persist, ending the year running at a 2.5% rate, higher than the Fed’s 2% target.
The biggest risk of upsetting financial markets is that the Fed might have to “pivot faster than they currently think” to combat higher inflation, she said.
The Fed cut interest rates close to zero in March 2020 as the pandemic struck the economy. The Fed’s “dot plot” projection for its benchmark interest rate shows that half of 18 officials expect the first increase in the benchmark rate to come by the end of 2022.
Adam Posen, president of the Peterson Institute, saw the chance of an even earlier rate hike. He said there was a 20% chance of raising rates in the second quarter.
The combination of a new Federal Reserve chair, higher-than-expected inflation readings and Republicans using inflation “as a political club” may force the Fed to act, he said.
About 60% of economists surveyed by the National Association for Business Economics expected the Fed to hold interest rates at zero through 2022.
In a separate speech Tuesday, IMF Managing Director Kristalina Georgieva said central banks around the world “can generally look through transitory inflation pressures and avoid tightening until there is more clarity on underlying price dynamics.”
But she added that central bankers “should be prepared to act quickly if the recovery strengthens faster than expected, or risks of rising inflation expectations become tangible.”
The yield on the U.S. 10-year Treasury note
TMUBMUSD10Y,
was up 5 basis points to 1.539% in trading on Tuesday.
