Fed Dec-24 projections guide for higher inflation and fewer rate cuts

19 Dec 2024 , 11:45 AM

FED PROJECTIONS HINT AT BENIGN UNEMPLOYMENT, BUT HIGHER INFLATION

Before we even start; the good news is that the hard landing risks are now almost off the table. That was a major issue in the previous September 2024 quarterly projections. The Fed has actually raised the 2024 GDP growth rate by 50 bps to 2.5%. To add to the positive sentiments, the guidance for unemployment has been cut by 20 bps from 4.4% to 4.2%. However, PCE inflation is likely to be higher 10 bps for 2024 at 2.4%, largely driven by core inflation ending up 20 bps higher at 2.8% for the year.

Obviously, this kind of a situation of robust growth, comfortable jobs balance, and higher than expected inflation is not compatible with an aggressively dovish policy. While the projection of Fed rates for end 2024 has been held at 4.4% (logical with 100 bps rate cut), future rate projections have been lowered. For example, rate projection at the end of 2025 has been raised by 50 bps from 3.4% to 3.9%, hinting at just 50 bps rate cut in 2025. The rate projection at the end of 2026 has also been raised from 2.9% to 3.4%. That means the next round of 100 bps rate cut will be spread over 2 years instead of just 1 year.

HOW THE US MACRO STORY PANNED OUT IN LAST 5 YEARS

Here is a quick recap of the data points of the last 5 years. These are actuals and based on actual data flows. It has been updated for actual 2023 data also.

Variable	CY-2019	CY-2020	CY-2021	CY-2022	CY-2023
Real GDP Growth	3.2%	-1.1%	5.4%	0.7%	3.1%
Unemployment Rate	3.6%	6.7%	4.2%	3.6%	3.8%
PCE Inflation	1.4%	1.2%	5.9%	5.9%	2.8%
Core PCE Inflation	1.5%	1.4%	4.9%	5.1%	3.2%

Data Source: US Federal Reserve (CY refers to calendar year)

As of now, we only have data up to calendar 2023 and from March we will update data for calendar 2024 also. Compared to 2022, the real GDP growth surged to 3.1% in 2023, and is likely to be relatively subdued at 2.5% in 2024. The unemployment projection for 2024 has again gone up to the 2021 levels of 4.2%. While the PCE inflation more than halved from 5.9% to 2.8% 2023, it has fallen another 40 bps in 2024 to 2.4%. The core inflation has also fallen another 40 bps. Overall, the tightness strategy employed by the Fed appears to have done the job. It has brought down inflation and kept the jobs situation in balance, without putting the GDP growth at peril; either in nominal or in real terms.

RECAP – SEPTEMBER 2024 FOMC PROJECTIONS (VERSUS JUNE 2024)

Let us start off with a quick recap of the key projections in September 2024 across various parameters. This is just to give a background to the current quarterly projections.

Variable	CY-2024	CY-2025	CY-2026	Longer run
Change in real GDP (Sep-24)	2.00	2.00	2.00	1.80
June-2024 projection	2.10	2.00	2.00	1.80
Unemployment rate (Sep-24)	4.40	4.40	4.30	4.20
June-2024 projection	4.00	4.20	4.10	4.20
PCE inflation (Sep-24)	2.30	2.10	2.00	2.00
June-2024 projection	2.60	2.30	2.00	2.00
Core PCE inflation (Sep-24)	2.60	2.20	2.00
June-2024 projection	2.80	2.30	2.00
Federal funds rate (Sep-24)	4.40	3.40	2.90	2.90
June-2024 projection	5.10	4.10	3.10	2.80

 

Data Source: US Federal Reserve (CY refers to calendar year)

If you look at the previous projections of key macros made by the Fed members in September 2024, it was a sort of turning point and justified the aggressive 50 bps rate cut. Look at some of the data points. The stress in GDP is visible with a lowering of the real GDP growth estimates for CY2024 by 10 bps. However, the real shocker was the 40 bps hike in the unemployment projections from 4.0% to 4.4%, largely triggered by the surprising jobs report in August 2024. In September, the Fed projections had factored in a very sharp fall in core inflation and headline inflation; which did not work out that due to the last mile inflation complications. The Fed projections were right in their 2024 projection of rates at 4.4%, but futures projections were likely to be an overestimate as we will see later.

PRESENT DAY – DECEMBER 2024 FOMC PROJECTIONS (VERSUS SEPTEMBER 2024)

Now we have the latest updates on December 2024 projections and so we can compare macro projections like GDP, unemployment, and inflation over September 2024. Here is how the outlook changed in last 3 months.

Variable	CY-2024	CY-2025	CY-2026	CY-2027	Longer run
Change in real GDP (Dec-24)	2.5	2.1	2.0	1.9	1.8
Sep-2024 projection	2.0	2.0	2.0	2.0	1.8
Unemployment rate (Dec-24)	4.2	4.3	4.3	4.3	4.2
Sep-2024 projection	4.4	4.4	4.3	4.2	4.2
PCE inflation (Dec-24)	2.4	2.5	2.1	2.0	2.0
Sep-2024 projection	2.3	2.1	2.0	2.0	2.0
Core PCE inflation (Dec-24)	2.8	2.5	2.2	2.0
Sep-2024 projection	2.6	2.2	2.0	2.0
Federal funds rate (Dec-24)	4.4	3.9	3.4	3.1	3.0
Sep-2024 projection	4.4	3.4	2.9	2.9	2.9

 

Data Source: US Federal Reserve (CY refers to calendar year)

What are the key takeaways from the projections of key macros made by Fed members in September 2024? It surely marks an improvement over the September projections on various counts, although inflation is estimated higher than in September. Here is a sneak peek at some of the data points. The good news is that the GDP projection has bounced back by 50 bps to 2.5%, which almost rules out the risk of hard landing. The projected unemployment rate was cut by 20 bps to 4.2% in 2024, but is expected to get back to 4.3% on an average in future years. The problem point is inflation; with the core inflation and the headline inflation projected higher by 20 bps and 10 bps respectively. That is a clear indication of stress in the last mile inflation control. The net result is that rate cuts are likely to be slower than anticipated in September for future years. The 100 bps rate cuts, originally estimated in 2025, will now be spread across 2025 and 2026.

HOW WILL RBI INTERPRET FOMC DECEMBER QUARTER PROJECTIONS

There are 3 key takeaways for the RBI from the latest Fed macro projections. Firstly, the GDP growth has been upped to 2.5% for 2024. It looks like there is no risk of hard landing now, and that should be positive for tech spending and US imports. Both will benefit India. Secondly, the experience of the US also is that last mile inflation is tricky and also sticky. The experience will be no different in India and the RBI has to be prepared for that. Lastly, the rate cuts are going to slow down in 2025. That is good news because it substantially reduces the risk of monetary divergence. That is something the RBI will be thankful for!