December 2021

The Inflation Battle Begins

With the labor market continuing to improve and inflation spiking, Fed officials have moved up their timeline for reducing asset purchases and predict as many as three interest-rate hikes in 2022.


Craig Imamura

Senior Product Strategist, Pacific Funds

Key Points

  • As expected, the Federal Open Market Committee (FOMC) held the federal funds target rate range at 0% to 0.25%.
  • With inflation higher and lasting longer than the Fed expected, the committee retired the word ”transitory” to describe today’s inflation.
  • The majority of committee members expect three rate hikes in 2022. The median committee member saw six rate hikes by the end of 2023 and a total of eight by the end of 2024.
  • Fed’s latest estimates show a further decrease in GDP from 5.9% to 5.5% in 2021 along with a decrease in unemployment from 4.8% to 4.3%.
  • Inflation is now projected to finish the year at 5.3% (more than a full percentage point more than just three months ago) before slipping back to 2.6% in 2022.

At their December meeting, Federal Open Market Committee (FOMC) members kept interest rates near zero but showed a unanimous hawkishness by accelerating the tapering of its bond purchases and predicting as many as three fed funds rate hikes in 2022. While fed fund futures started the week with a 32% probability of a first hike in March 2022, fed futures ended the final day of the FOMC meeting with probabilities of a March hike at 44.7%.

The committee stepped up the tapering of purchases in the point where the program is projected to end in March, four months earlier than expected.

The Fed followed through on Chairman Jerome Powell’s earlier comments to Congress about removing the word “transitory” to describe inflation. The December projections for personal consumption expenditures (PCE) inflation increased from 4.2% to 5.3% for 2021 (a full percentage point higher than its estimate three months ago) and from 2.2% to 2.6% for 2022 (a half-percentage higher than three months ago).

The committee also noted that it didn’t believe rising wages were contributing to the inflationary environment. The blame, the Fed concluded, could be found in supply-chain disruptions that have been larger and longer lasting than expected, and it said the resulting price gains will likely continue well into next year. While investors may need to revise their real-return projections for sometime, the committee believes that the supply-chain issues will eventually subside and so with it inflation. But the committee said it’s prepared to cut back on stimulus more quickly if it sees an environment of rapid inflation and strong economic growth.

Fed officials lowered estimates for GDP growth in 2021 from 5.9%to 5.5% and decreased unemployment numbers from 4.8% to 4.3%. The committee expects that the employment landscape should continue to improve, as the unemployment rate has seen a rapid drop.

Below are the language changes made in the Fed’s statement from November:

Here are the committee’s December projections for GDP, unemployment, inflation, and the federal funds rate for 2021 through 2024:

The committee’s “Dot Plot” showed noticeable increases in the projections for the fed funds rate in 2022, 2023, and 2024. The chart showed 10 of 18 committee members expecting three potential rate hikes in 2022, and all committee members expect the benchmark rate to be above 1% by 2023. The median committee member saw six rate hikes by 2023 and a total of eight by the end of 2024. Three officials actually projected a fed funds rate above 2% in 2023.

After the Fed announcement, the 10-year Treasury ended the day higher by 3 basis points to 1.45%; short and long rates were also higher on the day:

In Conclusion

Markets closed in positive territory on the final day of the FOMC meeting, as both the Dow Jones Industrial Average and S&P 500 Index moved higher during Chairman Powell’s press conference. The Dow and S&P 500 finished the day up 1.08% and 1.63%, respectively. As the committee dialed in on reigning in inflation, Treasury yields across the board increased in the 25 minutes following the Fed’s statement, as the curve continued a similar flattening patterned from previous months.

While the committee did adjust its stance regarding the transitory nature of inflation, most Fed officials appeared to still hold out hope that inflation will slide back toward their 2% annual average goal as the supply chains are fixed, factory production increases to meet demand, and consumers shift toward pre-pandemic spending patterns. Fed officials also acknowledged substantial improvement in the labor market as the jobless rate has fallen to just 4.2% from the double-digit levels during the pandemic. But there are still many people who remain out of the labor market, which complicates the formulate for judging when the Fed has reached its goal of “maximum employment.”

With a better look into the Fed’s crystal ball regarding tapering, inflation, and potential rate hikes, investors will now go into the holiday week with much to contemplate and likely less free cash in capital markets in 2022.


One basis point is equal to 0.01%.

The Dow Jones Industrial Average index (DJIA) tracks the share price of the top 30 large, publicly-owned U.S. companies which is often used as an indicator of the overall condition of the U.S. stock market.

Gross Domestic Product (GDP) is the total monetary or market value of all the finished goods and services produced within a country's borders in a specific time period.

Personal Consumption Expenditures (PCE) refers to a measure imputed household expenditures defined for a period of time.

The S&P 500 index is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the U.S. stock market.


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