Fading confidence Fed can avoid recession, even among Fed officials, is hurting markets, analysts say

Federal Reserve officials talk big when it comes to taking on soaring inflation, but there have been signs lately they are just as nervous as the markets about how this game ends for the economy, some analysts say.

Fed Chairman Jerome Powell said the Fed will do what it takes to cool blistering inflation  – even if it requires the Fed to raise its benchmark fed funds rate substantially above the so-called neutral rate, or the rate that neither stimulates nor restricts the economy.

“We won’t hesitate at all to do that,” Powell said at the Wall Street Journal's Future of Everything Festival on Tuesday. “We won’t.”

It’s that resolve that has rattled markets. How high will rates go? How much will they slow the economy? And how abruptly? The S&P 500 has dipped this year into the bear market territory, defined as at least 20% down from its record high, and the Dow Jones industrial average and Nasdaq are down by double digits.

The elusive 'soft landing'

Fed projections show the long-run fed funds rate between 2% and 3%, but no one – not even Powell – really knows what that neutral rate is.

“We just don’t, particularly in this environment of higher inflation and very strong growth in a really tight labor market,” he said.

Yet Powell, and many economists, expect the Fed to have to move above a neutral rate to slow the economy enough to rein in 40-year high inflation. Since higher rates increase the cost of borrowing, people will likely reduce spending. That should slow price increases.

But fewer people each day seem to think this can be done with a so-called “soft landing,” or without inflicting damage to consumers and the economy.

“We still expect economic growth to stall or worse as the Fed raises rates,” wrote Diane Swonk, chief economist at Grant Thornton, in a commentary. “The luxury of a soft landing is rapidly becoming more of a stretch.” She predicts the unemployment rate, at 3.6% in April, will eventually have to rise above 5% for inflation to cool to 2%.

Fed officials hedging?

What’s worse, some analysts say, is the Fed’s confidence in achieving a soft landing also may be waning.

In March, Powell expressed optimism the Fed could raise rates and achieve an economy in which inflation drops without high unemployment and a recession. By May, he transitioned to forecasting a “soft or softish landing,” meaning “there could be some pain involved to restoring price stability.”

Mike O’Rourke, chief market strategist at JonesTrading, said “since Fed chairmen never aim for hard landings, Powell moving on from soft to softish should have been a major red flag for markets.”

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More hemming and hawing about what sort of landing can be expected from this cycle of rate hikes came from Philadelphia Federal Reserve President Patrick Harker. When asked recently about the risk that the rising rates will trigger a recession, he said, "there's always a risk there will be some negative growth. I'm still in the camp that if we don't get a soft landing, we can at least get a safe landing."

According to Harker, that means the ride to lower inflation will be “bumpy” and maybe “a bit of a thrill ride,” but the economy should avert a recession.

“The language we're seeing from Fed officials isn't filling me with confidence,” said Craig Erlam, senior market analyst at OANDA, a foreign exchange company. “We've gone from them being confident of a soft landing, to a softish landing and even a safe landing. I'm not sure who exactly will be comforted by this, especially given the Fed's recent record on inflation and past record on soft landings. And it seems investors aren't buying it either.”

Medora Lee is a money, markets, and personal finance reporter at USA TODAY. You can reach her at mjlee@usatoday.com and subscribe to our free Daily Money newsletter for personal finance tips and business news every Monday through Friday morning.

This article originally appeared on USA TODAY: Fed seems less certain it can avoid recession, spurring market jitters