On Wednesday, the U.S. Federal Reserve decided to keep interest rates unchanged but reinforced a hawkish monetary policy stance. Fed officials increasingly believe that this approach can effectively combat inflation without causing significant economic damage or substantial job losses.

The Fed’s benchmark overnight interest rate remains within the current 5.25%-5.50% range. However, policymakers unveiled a more stringent policy direction to tackle the persistent inflation, which they now expect to extend into 2026.

Fed Chair Jerome Powell emphasized the Fed’s commitment to addressing inflation, stating, “People hate inflation. Hate it.” He also noted that a robust economy with strong job growth would allow the central bank to exert additional pressure on financial conditions through 2025, with minimal negative impacts on the economy and labor market compared to previous inflation battles.

Despite expectations of declining inflation in 2023 and beyond, the Fed anticipates only modest initial reductions in its policy rate. This means that the expected half-percentage-point rate cuts in 2024 would effectively raise the inflation-adjusted “real” rate. This is a notable shift from June when Fed officials expected to cut rates by a full percentage point in the following year.

While Powell acknowledged the Fed’s ability to proceed cautiously with future policy moves, he highlighted that the central bank had not yet determined whether they have reached the appropriate interest rate level to achieve the Fed’s 2% inflation target. Powell stated, “We want to see convincing evidence really, that we have reached the appropriate level.”

Inflation, by certain measures, continues to exceed the Fed’s desired level. However, Powell noted a decline in inflation across several key sectors of the economy.

Following the release of the latest Fed projections and policy statement, bond yields surged, with the 2-year Treasury note reaching a roughly 17-year high near 5.2%. Major U.S. stock indices experienced declines.

While Powell’s language regarding inflation remained strict, there is growing optimism among U.S. central bankers that a “soft landing” may be achievable. Powell stopped short of labeling it the Fed’s “baseline,” but he acknowledged that it was possible. Projections indicated that Fed policymakers foresee inflation declining while GDP continues to grow, and the unemployment rate remains below 4.1%, defying historical trends and some economic predictions.

The median GDP forecast among policymakers for 2023 is now 2.1%, a significant increase from the beginning of the year when it was much lower. With the federal funds rate expected to fall to 5.1% by the end of 2024 and 3.9% by the end of 2025, the Fed anticipates inflation will gradually decrease, reaching the 2% target in 2026.

Despite the hawkish outlook, 10 out of 19 Fed officials expect the policy rate to remain above 5% through the next year. This implies that both companies and households will face tighter credit conditions and higher borrowing costs, affecting credit card interest rates, auto loans, and home mortgages.

The Fed’s decision to adopt a more hawkish stance is driven by the economy’s strong performance, with inflation receding without significant adverse effects on jobs or economic output. The Fed aims for a “soft landing” despite higher, more prolonged rates.

The Fed’s statement received unanimous approval, and this meeting marked the debut of new Fed Governor Adriana Kugler on the central bank policymaking stage.