The timing of that rate hike could also dictate when the Fed starts shrinking its $8.76 trillion portfolio of bonds and other assets. Policymakers expected it would be appropriate to start shrinking that balance sheet sometime after rates rise, though no decisions were made.
Minutes from the December Fed meeting offered a deeper look into what shaped policymakers thinking as the brutal surge of the omicron variant was just underway. At a news conference following that meeting, Fed Chair Jerome H. Powell said it was still “difficult to say what the economic effects [of omicron] would be.” People were increasingly “learning to live” with the virus as they entered a third year of pandemic life, Powell said. But only time would tell whether omicron would weigh on hiring and supply chains, like the delta variant did earlier in the year.
“So it can have an economic effect. I just think, at this point, we don’t know much,” Powell said at the time. “We’ll know a whole lot more in three weeks, and we’ll know more than that in six weeks.”
Since then, the overwhelming spread of the omicron variant has shuttered restaurants, stores, schools and offices. Economists don’t expect the variant to deal a blow to overall economic growth or prompt shutdowns similar to the early days of the pandemic. But it is clear that people’s ability to go to work, send their kids to school or plan a holiday vacation are being compromised by the pandemic yet again.
Fed policymakers generally expected global supply chain bottlenecks to persist well into 2022, according to the minutes, with a few officials saying some businesses were up against “deteriorating” supply constraints that could be made worse by new variants of the virus.
Looking ahead, officials pointed to the rising cost of housing and rent, wage growth driven by worker shortages, and prolonged supply-chain issues. They also discussed how such high inflation measures could start to change people’s expectations for what prices will be like in the future. That’s dangerous territory for the Fed, since inflation dynamics can be somewhat self-fulfilling if people change their behavior now to get ahead of perceived price hikes down the road.
In the weeks leading up to the December meeting, Fed officials also ditched their messages around temporary, or “transitory” inflation. For much of 2021, Powell and other policymakers said price increases would be more limited to pockets of the economy affected by the pandemic. But those predictions were increasingly at odds with what was actually happening in the economy and how people were feeling the strain.
“Participants noted their continuing attention to the public’s concern about the sizable increase in the cost of living that had taken place this year, and the associated burden on U.S. households, particularly those who had limited scope to pay higher prices for essential goods and services,” the minutes read.
The Fed’s main tool for combating inflation is through interest rates, which it can raise or lower depending on what is happening in the economy. The Fed slashed rates to zero at the beginning of the pandemic to give households and the economy as much support as possible. And since spring of 2020, the Fed has been hesitant to raise rates until the labor market has fully healed. (Higher interest rates tend to slow growth in the labor market.)
But that approach has come under intense pressures as inflation soars to nearly 40-year highs and the labor market, while still vulnerable to the ongoing pandemic, has made major strides. With Fed leaders forecasting three rate hikes next year, policymakers will have to judge when the labor market has reached “full employment,” or if the Fed will have to step in sooner to get control of inflation.
According to the minutes, some policymakers said there could be situations when the Fed would raise rates before full employment was reached, including if inflation pressures and inflation expectations were moving materially and persistently higher.”
Still, many officials said that if current conditions continued, the labor market would quickly reach maximum employment.