The Federal Reserve signaled Wednesday that it likely won't hike interest rates until 2024, after inflation has returned to 2%. Even still, the Fed expressed somewhat more optimism about the economy. Yet the central bank will rely for now on interest-rate guidance rather than more asset purchases to foster recovery. After the Fed meeting policy announcement, the Dow Jones initially added to solid gains, but stocks weakened as Fed chief Jerome Powell elaborated on policy.00:03

01:19
 

The Fed released policymakers' economic projections through 2023 that showed the benchmark rate holding at the current 0%-0.25% range. Inflation is seen rising to 2% and unemployment falling to 4% by the end of 2023.

The Fed's first rate hike in the prior cycle came in December 2015, when the unemployment rate was 5.0%.

The Fed statement indicated no rate hike is likely "until labor market conditions have reached levels consistent with the Committee's assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time."

In addition, the Fed meeting statement again reiterated policymakers' commitment to use their "full range of tools to support the U.S. economy" as they target maximum employment and price stability. Policymakers also pledged to keep asset purchases at the current level or higher.

After the Fed meeting policy announcement and as Fed chief Jerome Powell continued speaking, the Dow Jones pared its gain to 0.1%. The S&P 500 reversed to close down 0.5%. The Nasdaq composite, which briefly turned positive, declined 1.25%.

The 10-year Treasury yield, near 0.67% before the Fed statement, ticked up to 0.69% after Fed chief Powell spoke.

Fed Average Inflation Target

The Federal Reserve set the table for this week's meeting with its major policy shift unveiled on Aug. 27, embracing a 2% average inflation target.

The Federal Reserve's new policy throws out the notion of preemptive tightening to cool down a labor market that might overheat. Based on the experience of 2018 and 2019, the Fed scrapped the notion that low unemployment will necessarily produce an unwelcome rise in inflation.

Consistent with that policy shift, Fed projections confirmed that it's unlikely to raise interest rates before 2024.

Short-term interest rates will remain in check as the Fed keeps its overnight lending rate near zero. Yet as inflation gradually rises toward 2% and the Fed stays patient, long-term interest rates will begin to recover from their coronavirus lows.

That explains Wall Street's initial reaction to the Fed's adoption of an average inflation target: The 10-year Treasury yield sprinted to a two-month high 0.75%.

The implication is that Wall Street sees a good chance that the Fed will succeed in lifting inflation. Progress toward a coronavirus vaccine also could jolt long-term rates higher, even as the Fed remains committed to holding its benchmark overnight lending rate near zero.

What Will Fed Do To Hold Down Long-Term Interest Rates?

A logical policy response that some expected to be announced on Wednesday would be to direct the Fed's purchases of Treasuries, about $4 billion per day, to the long end of the Treasury yield curve. Such a move would help hold down long-term rates and signal that the Fed is committed to keeping the 10-year yield near its current range.

A heartier step in this direction would involve an increase in Fed asset purchases, also directed to the long end of the Treasury yield curve. Yet Fed policymakers haven't expressed any sense of urgency that the recovery is faltering, and they may prefer to wait until the 10-year yield pushes closer to 1%.

Powell said in his press conference that the Fed is prepared to target different parts of the Treasury curve or adjust purchases, as needed.