Fed to wait until 2023 to raise rates, but there is risk of earlier hike

The Federal Reserve building is set against a blue sky in Washington, U.S., May 1, 2020. REUTERS/Kevin Lamarque/File Photo

BENGALURU, Oct 20 (Reuters) - The Federal Reserve will wait until 2023 before raising interest rates, according to a majority of economists in a Reuters poll who nonetheless said the greater risk for the U.S. economy was persistently higher inflation over the coming year.

While half the members of the U.S. central bank's policy-setting committee projected last month that the Fed would raise its benchmark overnight lending rate - federal funds rate - next year, most economists surveyed were more cautious.

The poll was conducted Oct. 12-18.

"We continue to expect the Fed to remain patient. We continue to forecast no liftoff for the funds rate until late 2023, but exact timing will depend critically on how the outlook evolves as more data are reported," said Jim O'Sullivan, chief U.S. macro strategist at TD Securities.

Forty of 67 economists said the fed funds rate would rise from its current level of 0-0.25% in 2023 or later, with most clustering around the first quarter of that year. The remaining 27 economists expect a rate hike by the end of next year.

Reuters Poll: U.S. economy outlook

Pent-up consumer demand in a reopening economy is raising price pressures at a time when global supply chains, disrupted by the coronavirus pandemic, are causing widespread inventory shortages.

High inflation is a concern for many central banks, some of which have already raised rates or are close to doing so. The Fed, for its part, is expected to announce next month that it will begin reducing the $120 billion in monthly bond purchases it has been making to stem the economic fallout of the pandemic.

Twenty-nine of the 37 economists who responded said the risk for the timing of the Fed's first interest rate hike was that it could come earlier than they expected.

"Unfortunately, we doubt supply-chain issues and labor market shortages will be resolved quickly, so inflation will remain elevated through 2022. Given this situation, we expect interest rate rises in September and December next year," said James Knightley, chief international economist at ING.

Twenty-two of the 40 economists who responded to an additional question said the greater worry for the U.S. economy over the coming year was persistently higher inflation, and 30% of them said it was a bigger-than-expected slowdown in growth.

The consensus for the personal consumption expenditures (PCE) price index excluding food and energy, one of the Fed's key inflation gauges, pointed to above-target inflation through to the end of next year, albeit slowing in the second half of 2022, along with economic growth.

"We are raising core inflation estimates a little, reflecting ongoing supply/demand imbalances," TD Securities' O'Sullivan said.

"Yes, the inflation projections for 2021 keep getting raised, but Fed policy needs to be positioned appropriately for where the economy is heading, not where it has been."

After expanding 6.7% in the second quarter on an annualized basis, U.S. economic growth was expected to have slowed to 3.8% in the third quarter before expanding 5.0% in the current quarter. That compared with the 4.4% and 5.1% predicted in September for the third and fourth quarters, respectively.

On average, the economy was expected to grow 4.0% next year, 2.5% in 2023 and 2.2% in 2024. That compared with previous forecasts of 4.2% for 2022 and 2.3% for 2023. The September poll did not ask for forecasts for 2024.

The dilemma for Fed policymakers, who are tasked with targeting stable inflation as well as maximum employment, is whether early rate hikes to stop inflation from spiraling higher might potentially sacrifice further job gains.

The unemployment rate was expected to hover between 3.6% and 4.7% until the second half of 2023 at least, with only a handful of economists predicting it to dip to where it was before the pandemic.

(For other stories from the Reuters global economic poll:)

Reporting by Shrutee Sarkar; Polling by Mumal Rathore, Arsh Mogre and Sarupya Ganguly; Editing by Ross Finley and Paul Simao

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