Fed may be ready for faster rate hike next year

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Jerome Powell's pivot toward a quicker withdrawal of stimulus paves the way for a more agile Federal Reserve in 2022, one that will be willing to raise interest rates faster than anticipated if inflation lingers or holds back if the pandemic worsens.

Powell, who was elected Chair for another four years, is responding to hot readings on the economy that caught officials by surprise, including signs that inflation is spreading and labor supply is still limited despite falling unemployment.

Investors can expect a stepped-up of Fed communication of an evolving outlook for employment and inflation that stresses flexibility amid uncertainty over the pandemic and new virus strains. The Fed retreated from the 2008 -- 2009 financial crisis has not been a template for this Fed, which is facing a situation that policy makers haven't had to confront in decades: booming growth and soaring prices.

They are shifting, said Anna Wong, a former Fed Board staffer and chief U.S. economist at Bloomberg Economics. We are seeing more weight being put on the discretionary part of policy-making, given the large forecast errors on inflation. Powell told U.S. lawmakers last week that it was time to retire the Fed's description of high inflation as transitory, a position it held fast to for most of 2021 and left it doling out stimuli even as some called for it to pull back as inflation accelerated.

During hearings in which he heard bipartisan complaints about the harm of high prices, he said officials meeting Dec. 14 -- 15 would consider ending their asset purchase program a few months earlier than originally planned in mid- 2022. They will also release fresh rate forecasts, which in September saw them evenly split over raising rates next year.

Analysts are boosting their outlook for interest rates next year because of the broadly-signed policy pivot that came shortly before the meeting.

Evercore ISI s Krishna Guha and Peter Williams wrote in a note Friday that they are moving to a three-hike baseline for 2022 with 25 basis-point rate increases in June, September and December.

Such a path may depend on the impact of the new omicron variant of the coronaviruses. In a weekend report, Goldman Sachs Group Inc. economists cut their forecasts for the U.S. economy this year and next after deciding that the strain's spread would exert a modest downside drag on growth.

Powell s signal, just weeks after the Nov. 2 -- 3 Fed meeting when the taper was announced, responds to an economic recovery that has surprised officials at every turn. It increased in the days leading up to and shortly after the decision.

Employment costs went up at a record pace just days before officials gathered. Consumer prices went up by the fastest pace in three decades in October, according to a government report. That month s jobs report came in strong. The labor market saw fewer workers entering the labor market than anticipated, despite the availability of coronavirus vaccines and the reopening of schools. And underlying demand is solid -- retail sales rose by the most in 7 months in October - with estimates of fourth-quarter growth remaining strong.

Other Fed officials suggested that it was necessary to remove policy support quickly after the taper was announced.

All policy doves, including Richard Clarida, Governor Chris Waller, and San Francisco Fed President Mary Daly, said they were open to a faster removal of policy support. James Bullard of St. Louis, who has been pushing to speed up the taper for a while, said Friday he favored wrapping up in March.

When inflation is a problem, there are no doves, said Laurence Meyer, a former Fed governor who was struck by how fast officials began publicly questioning their policy decision. Can we ever think of a time when a decision is made before they actually start it? Two prominent U.S. central bankers, Powell himself and Governor Lael Brainard, who were both being considered for the chairmanship, were notably silent throughout this period.

President Joe Biden announced on November 22 that Powell would be renominated while Brainard would be elevated to vice chair to replace Clarida, whose term as governor ends in January.

Powell told senators that it was time to discuss whether the Fed should wrap up asset purchases more quickly.

He told the Senate Banking Committee that, given the wedges in the labor market with the virus still out there, it would take more time to get workers back. He explained that getting inflation under control was critical for his labor market goal, and he explained why that was why he said it was critical to getting inflation under control now.

We're going to need a long expansion to get that we need price stability," Powell said. Inflation is a major risk to get back to a labor market because of the risk of persistently high inflation. Progressives are likely to hold Powell accountable as the central bank approaches tightening in 2022 because the Fed made much of its maximum employment goal broad-based and inclusive when it updated its policy framework last year.

Both Democrats and Republicans want Powell to do something about inflation in the near term. That is a big political gift for the Fed, since historically lawmakers tend to pressure the central bank to keep borrowing costs low.

We need to get control of inflation, Louisiana Republican Senator John Kennedy told Powell during the hearing.

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