Gus Faucher of PNC Financial Services Group joins Yahoo Finance Live to discuss the outlook for inflation in 2022, Fed rate hikes, and the biggest risks to growth.

Video Transcript

BRIAN SOZZI: Let's get a look into all things economy in 2022, with Gus Faucher, chief economist at PNC Financial Services Group. Gus, always nice to talk with you. You know, really one of the biggest themes throughout this year, at least from an economic standpoint, has been inflation. Do you see any relief in the inflationary pressures we continue to experience right now?

GUS FAUCHER: I do think that we'll see a gradual slowing in inflation over the course of 2022. After a big run-up in energy prices, they're going to stabilize or come down next year. I do think that a lot of the higher price pressures from reopening of the economy are going to fade, things like airfares, hotel rooms, new cars, used cars. So I think we'll see either outright declines in some of those prices or at least, slower growth in some of those prices. And that will help reduce overall inflationary pressures. I still think inflation is going to be a bit higher than the Fed wants but we will see slowing inflation over the course of 2022.

JULIE HYMAN: So if the sort of natural for lack of a better word, influences on inflation are abating, and we'll start to see inflation come down, and then the Fed also is going to be removing accommodation, what does that overall do to inflation then by the end of next year, do we see it start to trend closer to the Fed's target?

GUS FAUCHER: Closer to the Fed's target. I think by the end of 2022 we'll see inflation measured using the Personal Consumption Expenditures Price Index that the Fed likes to look at, around 3%. That's higher than they would like it. They want it to be 2% over the long run. We are going to get kind of price pressures bubbling up from underneath in the form of higher wages, in the form of higher housing costs. So that will prevent inflation from moving to 2% in 2022 but I do think that we'll see a further slowing in 2023 in large part because the Fed is going to be reducing that accommodation. So I do expect that over the long run, we will see inflation hit that 2% objective that the Fed is shooting for.

BRIAN SOZZI: You know, I went back and was looking at a lot of historical notes this past weekend, Gus, looking at you know, what happens to the economy when the Fed starts raising interest rates. And as I'm sure you know, it usually takes six months for those rate hikes to impact the economy or slow it down. How do you see rate hikes impacting the economy at some point next year?

GUS FAUCHER: Well, we've already started to see long-term interest rates move higher as the Fed has reduced some of its accommodation as it started to buy fewer long-term Treasuries, mortgage-backed securities. I would expect that for example, we'll see slower growth in house prices over the course of 2022 because of higher rates. Business investment will increase but at a slower pace because of the impact of higher interest rates.

Consumers will cut back on spending on durable goods, big-ticket items. Cars I think will be solid this year or next year because of the automakers figuring out their production problems but I think we'll be buying fewer appliances, building materials, things like that. So some slowing growth but I still think that the economy will expand at a solid pace next year, just perhaps a little bit below what we saw in 2021.

JULIE HYMAN: Gus, I like to ask this question often, admittedly. I'm curious what you think the biggest risk is to growth next year?

GUS FAUCHER: I still think it's the path of the pandemic. You know, we're concerned about the Omicron variant, what that could do to consumer spending. The big question is, what's going to happen to consumer spending on services, movies, health care, education, those types of things. If we don't get the pandemic under control, consumers are going to be reluctant to go out in public and that means a sub-par recovery. So until the pandemic is more towards the level of the seasonal flu, I don't think we'll have a full recovery. And so that's the biggest wild card out there right now.

BRIAN SOZZI: Gus, to that point, if there is something to-- that will surprise the economy next year and even economists more broadly, what do you think it will be?

GUS FAUCHER: The question is, do we see inflation slow as we're expecting? If inflation doesn't slow, if we still have some of these price pressures from reopening and so forth, then we see the Fed tighten much more aggressively, perhaps they start to raise the Fed funds rate sometime in the first half of 2022. That could have a big negative impact on growth as we see higher interest rates start to weigh on interest rate-sensitive sectors like housing, like autos, like business investment.

BRIAN SOZZI: Gus Faucher, chief economist at PNC Financial Services Group. Always appreciate you hopping on with us, especially last-minute. Have a happy new year.