Dudley Says Fed Will Hike Rates Much Further Than What Markets Expect

(Bloomberg) — Financial markets are underestimating just how far the Federal Reserve will go to tame a decades-high inflation rate, according to former New York Fed President Bill Dudley.

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In a press conference following the central bank’s decision to raise interest rates by another 75 basis points, Chair Jerome Powell repeatedly referenced his colleagues’ summary of economic projections from June as the “best guide” to where the committee needs to tighten policy. That shows the federal funds rate ending this year at 3.25%-3.5%, plus another 50 basis points of tightening in 2023.

“That’s quite a bit more than what’s priced into the markets today,” Dudley said in an interview on Bloomberg Television. “The fact that he came back to the June SEP projections three to four times in his remarks suggests to me that the Fed thinks they’re going to do quite a bit more than what’s priced into the markets today.”

Given the high degree of economic uncertainty, Powell said the Fed will make decisions on a meeting-by-meeting basis and follow the incoming data rather than providing “clear guidance” on rate moves.

Financial markets gained after the decision and throughout Powell’s press conference, what Dudley deemed a “relief rally” now that the meeting is over. However, he said the upside for markets is “very much capped” and the Fed needs tighter financial conditions to achieve slack in the labor market and bring inflation down.

Dudley disagreed with Powell’s assessment that the Fed has already hiked rates to a neutral range. Given the level of uncertainty, “I’d be a bit more skeptical,” Dudley said, adding that the terminal rate is probably closer to 4%.