Fed vice chair: Taper could begin later this year, with rate hike in early 2023

The Federal Reserve’s number two official said Wednesday that if the U.S. economic recovery progresses as he expects, the central bank could launch its first post-COVID 19 rate hike at the beginning of 2023.

Richard Clarida, the Fed’s vice chairman, said that “upside” risks to higher inflation and his expectation for a steady labor market recovery would signal an economy that could be ready for higher short-term interest rates in over a year.

Clarida said that he could support lifting rates at the beginning of 2023 if the unemployment rate dips to 3.8% by the end of 2022. But the spike in COVID cases from the Delta variant could present some risks to that outlook.

“I think we’re going to know more about the labor market over the next several months than we do right now,” Clarida said.

The vice chairman reiterated that across all the economic variables the Fed watches, policymakers will be guided by data-backed outcomes — not forecasts.

“The recovery and expansion following the pandemic are unlike any we have ever seen, and it will serve us well to remain humble in predicting the future,” Clarida said in remarks to the Peterson Institute for International Economics.

Clarida may not be on the Fed board by the time he expects to see those first rate hikes; his term ends January 31, 2022 and it is unclear if the Biden administration would want to renominate him.

Still, Clarida was a chief architect of the central bank’s refreshed approach to monetary policy. After a roughly year-and-a-half review that began in 2019, the Fed in August last year announced it would start allowing inflation to rise “moderately above” its 2% target.

“Commencing policy normalization in 2023 would, under these conditions, be entirely consistent with our new flexible average inflation targeting framework,” Clarida said, pointing to his forecasts on inflation and unemployment.

Tapering by year-end

Fed officials have said clearly that any rate hike would come after the Fed begins tapering its asset purchases.

Currently, the central bank is snatching up about $120 billion a month in U.S. Treasuries and agency mortgage-backed securities. But Fed Chairman Jerome Powell hinted last Wednesday that slowing the pace of the so-called quantitative easing program could begin not long from now.

For his part, Clarida said he feels the economy has “made progress” and could be ready to endure a Fed taper by the end of the year.

“If my baseline outlook does materialize, then I can certainly see supporting announcing a reduction in the pace of our purchases later this year,” Clarida said.

Clarida’s colleague, Fed Governor Christopher Waller, told CNBC earlier in the week he could see the Fed slowing down bond purchases as soon as October.

Waller similarly said he would want to see how the labor market data comes in.

The next jobs report, covering the month of July, will be released by the U.S. Bureau of Labor Statistics on Friday, Aug. 6.

Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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