Fannie Mae’s economists have again stepped up their expectations for the Fed’s response to escalating inflation. A 7.5 percent annual increase in the January Consumer Price Index (CPI), a 40-year high, prompted Fannie’s Economic & Strategic Research (ESR) Group to raise its forecast for a March increase in the Fed funds rate from 25 basis points to 50. The group says, however, that they disagree with the futures markets in that they expect initial rate hikes, from March through July to total 100 basis points, followed by a pause for the rest of the year while the Fed assesses the impact of both the increases and their balance sheet run off, especially as the Fed has had little experience with the latter. Faster rate growth, (market anticipation has already boosted the 10-year Treasury Note to near 2.0 percent) along with a major revision to 2021 employment data, has moved the ESR also to downgrade its growth expectations for 2022 real gross domestic product (GDP). The change from 3.1 percent for the full year to 2.8 percent reflects a greater deceleration in the current quarter. The employment update raised the pace of job growth in the last months of 2021 from the 350,000 per month previously reported to an average of 600,000 and revised labor force participation up by 0.3 point. This suggests there are fewer sidelined workers are available to support additional growth than thought earlier. The authors say the 6.9 percent annualized GDP growth in the fourth quarter of last year was probably the peak going forward. The surge was in line with expectations, but the reason differed. Growth was driven primarily by a surge in inventory restocking, i.e., “borrowing from the future.” This debt is now being repaid as inventory rebuilding slows. “Real final sales,” meaning consumption and fixed investment, in contrast, rose by a much weaker 1.9 percent in the fourth quarter. That, combined with rising inflation, an expiration of the extended child tax credit payments, and Omicron related disruptions in January led to a revision in the ESR’s expectation for Q1 2022 down to 1.3 percent annualized growth from the prior 3.4 percent. A short term rebound in Q2 is expected and the 2023 projection remains at 2.2 percent.

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