Fed says interest rates will rise further in 2023 - here's what you need to know

What happened?

After inflation slowed down in the last month, some investors were expecting that the “Fed pivot” will come soon. 

After all, the persistently high inflation has been the key driver behind the Fed’s aggressive interest rate increases in the past year. 

This was why the December Fed meeting was closely watched for signs of whether we might start to see interest rates being cut in 2023.

Let’s take a look at what the Fed has to say about where interest rates might be headed next year. 

What we learnt from the latest Fed meeting

#1 – Benchmark rates raised by 0.50% as expected

The Fed raised its benchmark interest rate by 0.5% as expected in its final meeting of the year. 

This would mark a slower pace of increase following consecutive 0.75% hikes, and bring its target interest rate to 4.25% to 4.5%. 

While inflation has come down in the last two months, Fed Chairman Jerome Powell admitted that “we have more work to do.”

He also shared that “It will take substantially more evidence to give confidence that inflation is on a sustained downward path.”

#2 – Fed officials project larger interest rate increases compared to previous meeting

Fed officials also shared their interest rate projections in the coming years. 

The median estimate for the fed funds rates by the end of 2023 rose to 5.1% from 4.6% when projections were last published in September. 

This would suggest a further 0.75% increase in interest rates from the current levels. 

Fed officials also project that the policy rate will decline to 4.1% in 2024, compared to the previous forecast of 3.9%.

Source: Federal Reserve projections

#3 – Not thinking about easing up as yet

What many investors are interested in, is whether we will start to see rate cuts next year. 

However, Powell made it clear that rate cuts are not on the cards as yet. 

In fact, the Fed’s projections would suggest that there are more rate hikes next year. 

He said that “I wouldn’t see us considering rate cuts unless there’s confidence that inflation is moving down to 2% in a sustained way.” 

What would Beansprout do?

There’s still a lot of uncertainty in the projections.

Powell said that Fed officials have consistent raised their forecasts for peak interest rates. 

He said “I can’t tell you confidently that we won’t move up our estimate…again.”

However, what’s most interesting to us is that most investors do not believe in the Fed’s projections for more interest rate increases. 

The majority of forecasters are expecting the fed fund rate to be at 3.75% to 4.25% by end 2023. This is significantly below the Fed median forecast of 5.1%. 

With the current high levels of interest rates, there are ample opportunities for investors to park their spare cash in high-yielding instruments without having to take too much risk. 

For example, the yield on the 6-month T-bill recently rose to 4.4%, the highest level in decades.

The interest rate on the SSB may have come down, but it still offers an attractive option to lock in long-term interest rates while offering flexibility of redemption.

Banks are offering interest rates of up to 4.15% for fixed deposits of one year, and effective interest rates of up to 5% for savings accounts. 

The Fed’s latest meeting has signaled that interest rates are staying higher for longer, and we’ve got to make our money work harder.