By Lindsay (NYSE:LNN) Dunsmuir and Ann Saphir
WASHINGTON (Reuters) - The U.S. economy is on track by the end of next year to meet the employment and inflation hurdles the Federal Reserve has set for raising interest rates, consistent with a liftoff in borrowing costs in 2023, Fed Vice Chair Richard Clarida said on Wednesday.
"I believe that these ... necessary conditions for raising the target range for the federal funds rate will have been met by year-end 2022," Clarida said in a webcast discussion hosted by the Peterson Institute for International Economics. "Commencing policy normalization in 2023 would, under these conditions, be entirely consistent with our new flexible average inflation targeting framework."
Clarida said he expects some "pretty healthy" U.S. job gains this fall as factors holding back labor supply dissipate.
"If my baseline outlook does materialize then I could certainly see supporting announcing a reduction in the pace of our purchases later this year," he said during a question-and-answer session, referring to the U.S. central bank's $120 billion in monthly purchases of Treasuries and mortgage-backed securities.
Coming just days after Fed Governor Christopher Waller signaled his view that the Fed ought to begin paring the asset purchases by October, Clarida's comments appear to set up the central bank for a quicker path toward reducing support for the economy than had been widely understood.
Fed Chair Jerome Powell said last week that the jobs recovery still had some "ground to cover" before the Fed could begin to reduce its bond-buying program, and the Fed was "clearly a ways away" from considering raising interest rates, even as he acknowledged the central bank was monitoring inflation carefully to make sure the current overshoot is not persistent.
The benchmark 10-year Treasury yield rose after Clarida's remarks and the release of a report showing U.S. services industry activity jumped to a record high in July.
Interest rate futures in late-morning trading priced in a high likelihood of the Fed raising its benchmark overnight interest rate, currently near zero, three times by the end of 2023.
In economic projections released in June, the median forecast of Fed policymakers was for two rate hikes in 2023.
INFLATION OUTLOOK
Inflation continues to run well above the Fed's 2% goal, but there are still 6.8 million fewer people employed than just before the onset of the coronavirus pandemic.
In his remarks on Wednesday, Clarida said he expects that gap to have been filled, and the Fed's full employment mandate to have been met, by the end of 2022.
While he said he still expects current high inflation readings to come back down, if the Fed's preferred inflation gauge comes in above 3% this year, he also said he would consider that more than a moderate overshoot of its inflation goal.
"I believe that the risks to my outlook for inflation are to the upside," Clarida said. Policymakers should look at the Fed's two goals - full employment and inflation - "in tandem," Clarida said.
He also noted the rapid spread of the Delta variant of the coronavirus is "clearly" a downside risk, and may be what is behind the recent and surprising drop in global government bond yields, rather than any loss in traction on inflation expectations.
But, he noted, current projections for U.S. gross domestic product growth this year "would be the most rapid return following a recession to ... the trend level of real GDP in 50 years."