Fed keeps rates unchanged and signals optimism about a potential 'soft landing'

WASHINGTON -- The Federal Reserve left its benchmark interest rate unchanged Wednesday for the second time in its past three meetings, a sign that it's moderating its fight against inflation as price pressures have eased.

The Fed's policymakers also signaled that they expect to raise rates once more this year and envision their key rate staying higher in 2024 than most analysts had expected.

But as their latest policy meeting ended, the 19 members of the Fed's rate-setting committee conveyed growing optimism that they will manage to slow inflation to their 2% target without causing the deep recession that many economists had feared. It's a hopeful scenario that economists call a "soft landing."

In a set of new quarterly projections, the policymakers showed that they expect faster economic growth and lower unemployment this year and next year than they had foreseen just three months ago. Even with solid growth in sight, they also think inflation will continue to cool.

Those expectations suggest that Fed officials feel "they're going to be able to do what it takes to achieve gradual disinflation without disruption to the labor market, or without triggering a meaningful recession," said Subadra Rajappa, head of rates strategy at Societe Generale.

Since peaking at a year-over-year high of 9.1% in June 2022, consumer inflation in the United States has dropped to 3.7%. Speaking at a news conference Wednesday, Chair Jerome Powell cautioned that the Fed still wants further assurance from forthcoming economic data that inflation is on a sustainable path back to its target level. But he suggested that the Fed is getting closer to the end of its rate-hiking cycle and that a soft landing seems "plausible."

"We're fairly close, we think, to where we need to get," Powell said. "A soft landing is a primary objective. ... That's what we've been trying to achieve all this time."

The Fed's latest decision kept its benchmark rate at about 5.4%, the result of the 11 rate increases it unleashed beginning in March 2022. Those rapid hikes, Powell said, now allow the central bank to take a more measured approach to its rate policy.

"We're taking advantage of the fact that we moved quickly in the past," he said, to manage rates "a little more carefully now as we sort of find our way to the right level of restriction that we need to get inflation back down to 2%."

Fed officials expect to cut interest rates just twice next year, fewer than the four rate cuts they had forecast in June. They predict that their key short-term rate will still be 5.1% at the end of 2024 -- higher than it was from the 2008-2009 Great Recession until May of this year.

Yet one reason they likely have reduced the number of expected rate cuts for 2024 is a positive one: They think a recession, which would require multiple rate cuts to aid the economy, is less likely to occur.

"What we have right now is what's still a very strong labor market that's coming back into balance," Powell said. "We're making progress on inflation. Growth is strong."

Though Fed officials have projected one more rate hike this year, Powell appeared to hedge more than he typically does on whether that will prove necessary.

"At this stage, they don't have as much certainty about that hike," said Derek Tang, an economist at LHMeyer, a forecasting firm. "He did sound more equivocal."

Treasury yields moved sharply higher Wednesday after the Fed issued a statement after its latest policy meeting and updated its economic projections.

In their new quarterly projections, the policymakers estimate that the economy will grow faster this year and next year than they had previously envisioned. They now foresee growth reaching 2.1% this year, up from a 1% forecast in June, and 1.5% next year, up from their previous 1.1% forecast.

Core inflation, which excludes volatile food and energy prices and is considered a good predictor of future trends, is now expected to fall to 3.7% by year's end, better than the 3.9% forecast in June. Core inflation, under the Fed's preferred measure, is now 4.2%. The policymakers expect it to drop to 2.6%, near their target, by the end of next year.

The approach to rate increases the Fed is now taking reflects an awareness that the risks to the economy of raising rates too high is growing. Previously, the officials had focused more on the risks of not doing enough to slow inflation.

In generating sharply higher interest rates throughout the economy, the Fed has sought to slow borrowing -- for houses, cars, home renovations, business investment and the like -- to help ease spending, moderate the pace of growth and curb inflation.

Though clear progress on inflation has been achieved, gas prices have lurched higher again, reaching a national average of $3.88 a gallon as of Tuesday. Oil prices have surged more than 12% in just the past month.

And the economy is still expanding at a solid pace as Americans, buoyed by steady job growth and pay raises, have kept spending. Both trends could keep inflation and the Fed's interest rates high enough and long enough to weaken household and corporate spending and the economy as a whole.

While overall inflation has declined, the costs of some services -- from auto insurance and car repairs to veterinary services and hair salons -- are still climbing faster than they were before the pandemic. Still, most recent data is pointing in the direction the Fed wants to see: Inflation in June and July, excluding volatile food and energy prices, posted its two lowest monthly readings in nearly two years.

And signs have grown that the job market isn't as robust as it had been, which helps keep a check on inflation. The pace of hiring has moderated. The number of unfilled openings fell sharply in June and July. And the number of Americans who have started seeking work has jumped. This has brought labor demand and supply into better balance and eased pressure on employers to raise pay to attract and keep workers -- a trend that can lead them to raise prices to offset higher labor costs.

Some factors are threatening to re-ignite inflation, weaken the economy, or both. Rising oil prices, for example, are making gasoline steadily more expensive. Should that trend continue, it would worsen inflation and leave consumers with less money to spend. Even the so-far limited strike by the United Auto Workers union against the Big 3 U.S. automakers could eventually further inflate vehicle prices.