The Fed Increases the Pace of Tapering as Inflation Measures Remain Hot

The Fannie Mae Economic & Housing Weekly Note will not be published the last two weeks in December 2021. We expect to resume on January 7, 2022.

Key Takeaways:

• At its December 14-15 meeting, the Federal Open Market Committee (FOMC) announced that it was doubling the speed of asset purchase tapering by reducing monthly purchases by a further $20 billion in Treasuries and $10 billion in MBS. At this pace, March would be the final month of purchases barring any further changes. The Summary of Economic Projections shows the FOMC significantly upgraded its inflation outlook for both 2021 and 2022, while also reducing its expectation for unemployment for 2021 and 2022. The dot plot now shows an expected three rate hikes in 2022 and 2023. Chairman Powell mentioned that the FOMC will begin to raise interest rates when they are comfortable that the labor market has returned to full employment, which they expect to occur sometime in 2022.
• Retail sales and food services rose by a muted 0.3 percent in November, according to the Census Bureau. Sales at food service establishments rose 1.0 percent, the largest increase since July. Sales of motor vehicles and parts fell 0.1 percent. Sales at building supply stores rose 0.7 percent while gas station sales rose 1.7 percent, the seventh straight month of increases. Sales at non-store retailers were unchanged. Core retail sales (excluding food services, autos, building supplies, and gas stations) fell 0.1 percent.
• The National Federation of Independent Business (NFIB) Small Business Optimism Index rose 0.2 points in November to 98.4, still well below the February 2020 level of 104.5. The share of firms planning on increasing employment fell to 25 percent, the lowest since May, while the share of firms expecting the economy to improve fell to the lowest level in nine years, at negative 38 percent. The share reporting that current inventories were too low jumped six percentage points to 15 percent, a survey record. Inflation was mentioned by 18 percent of firms to be the “single most important problem,” the highest level since 2008.
• The Producer Price Index (PPI) for final demand of goods and services rose 0.8 percent in November, an acceleration of two-tenths from last month in November, according to the Bureau of Labor Statistics. Core PPI rose 0.7 percent, an acceleration of three-tenths. From a year ago, headline PPI accelerated eight-tenths to 9.6 percent. Core PPI rose 6.9 percent from a year ago, an acceleration of six-tenths.
• Industrial production, a gauge of output in the manufacturing, utility, and mining sectors, rose 0.5 percent in November, according to the Federal Reserve Board. Manufacturing and mining output both increased by 0.7 percent, while utilities output fell 0.8 percent. Production of motor vehicles and parts rose 2.2 percent, while capacity utilization rose 1.5 percentage points to 70.4 percent, the highest since January, though still seven full percentage points below the level seen in July 2020.
• Housing starts jumped 11.8 percent to a seasonally adjusted annualized rate (SAAR) of 1.7 million in November, according to the Census Bureau. Single-family starts rose 11.3 percent to a SAAR of 1.2 million, the highest since March, while multifamily starts increased 13.0 percent to a SAAR of 506,000. Single-family permits rose 2.7 percent to a SAAR of 1.1 million while multifamily permits rose 5.2 percent to a SAAR of 609,000. The total number of single-family completions was essentially unchanged at 910,000 (SAAR), while the number of single-family units under construction continued to climb, rising 2.9 percent to 752,000, the highest level since March 2007.

Forecast Impact:

The decline in November core retail sales supports our expectation that a good portion of holiday shopping had been pulled forward to October. Still, we expect strong consumer spending in Q4, which we expect will help drive a strong Q4 GDP growth number. The NFIB showed that small firms continue to experience a significant shortage of inventories, consistent with our view that firms acting to rebuild these stocks will be a key driver of growth in coming quarters. The continued rise in motor vehicle production suggests that semiconductor related supply chain disruptions are currently easing, which should also help build auto inventories.

In terms of inflation more generally, a record share of firms plan on increasing both average selling prices and worker compensation. Inflation pressures are also evident in the November PPI report, which showed broad-based price increases for producers. We expect inflation to continue to accelerate in the near term, which is also likely to drag on consumer spending early next year. Additionally, given the strength in inflation measures, the FOMC decided to increase the pace of tapering their asset purchases, which will allow the Fed to hike the federal funds rate earlier than previously expected. Currently, the FOMC’s SEP shows the potential for three interest rate hikes in 2022, and given the faster pace of tapering, the first fed funds rate hike could come as early as March 2022.

Demand for new home construction remains robust as the supply of existing homes for sale remains historically tight and mortgage rates continue to be highly supportive for homebuyers despite drifting upwards recently. However, supply bottlenecks and labor scarcity continue to hold back a faster pace of construction. Despite the rise in starts, single-family home completions were essentially unchanged over the month, while the number of units under construction rose by 2.9 percent to the highest level since early 2007. Eventually these homes will add to the overall housing supply, but the Census Bureau’s December new residential construction report showed little evidence of improvement regarding homebuilders’ ongoing struggle to keep up with demand.

Ricky Goyette
Economic and Strategic Research Group
December 17, 2021

Opinions, analyses, estimates, forecasts and other views of Fannie Mae's Economic and Strategic Research (ESR) Group included in these materials should not be construed as indicating Fannie Mae's business prospects or expected results, are based on a number of assumptions, and are subject to change without notice. How this information affects Fannie Mae will depend on many factors. Although the ESR group bases its opinions, analyses, estimates, forecasts, and other views on information it considers reliable, it does not guarantee that the information provided in these materials is accurate, current or suitable for any particular purpose. Changes in the assumptions or the information underlying these views could produce materially different results. The analyses, opinions, estimates, forecasts, and other views published by the ESR group represent the views of that group as of the date indicated and do not necessarily represent the views of Fannie Mae or its management.