Fed's policy might halt economic growth, CBO director warns

The U.S. economic growth might halt this year due to the Federal Reserve's hawkish monetary policy, Congressional Budget Office director Phillip Swagel has warned.

According to the CBO, U.S. gross domestic product (GDP) will shrink in the first half of 2023 due to the consecutive interest rate hikes done by the Fed last year. Later in the second half, the economy will rebound but post "a barely positive reading" for the entire 2023.

"For 2023, we project stagnant output, rising unemployment, gradually slowing inflation and interest rates that remain at or above their levels at the beginning of the year — before the economy subsequently rebounds," Swagel said.

The CBO expected the Treasury Department to be out of borrowing room under the country's debt limit around July and September. It warned that the deadline might come before July if tax receipts reported figures below forecasts.

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The department also predicted that the national unemployment rate would increase to 5.1 percent by the end of this year, a significant jump from the 53-year low of 3.4 percent seen last January.

"The first half of the year in our projections is a difficult time," Swagel added. "It's got rising unemployment. It's not an enormous rise in the unemployment rate, but it's certainly a rising unemployment rate. And income growth is slightly negative."

Swagel declined to say that the CBO was projecting a recession, despite the agency's report about a "halt" of GDP growth and shrinking economic output in the first half of the year. The CBO director added that the National Bureau of Economic Research is the authorized agency that determines if recessions or expansions occur.

The CBO, however, forecasted a significant decline in inflation this year. The consumer price index (CPI) — a major indicator of inflation — is expected to decrease to 4.8 percent in 2023. Inflation will go down slowly to three percent in 2024 and get closer to the Fed's target in 2025, reaching 2.2 percent.

The department estimated that the "exhaustion date" for the U.S., which is when Social Security can no longer be able to make full benefit payments, would come a year earlier than the previous forecast of 2033.

The CBO's outlook on the U.S. economy was less optimistic than some economists. Signs of cooling inflation have increased optimism about the Fed's ability to pull off a "soft landing" — increasing benchmark interest rates enough to slow economic growth and bring down inflation, but not to the point that the economy stops growing entirely.

New inflation data

U.S. retail sales showed a sharp increase in January, which economists said might force the central bank to maintain its tight monetary policy for longer.

The Census Bureau reported Wednesday that retail sales in the U.S. rose by three percent from December, against the previous projection of a 1.8 percent increase. It was one of the biggest month-over-month increases in the past two decades.

The new data indicated that American consumers did reduce spending on discretionary items despite the inflationary environment. The data came a day after the U.S. Department of Labor reported that price pressures did not ease as much as at the end of last year.

However, Oxford Economics lead U.S. economist Oren Klachkin said it was "unlikely" for the retail sales to remain high for a more extended period. Klachkin explained that cooling wage inflation and "stubborn" price pressures would eventually make consumers less willing to spend their money.

Analysts said the new data released this month had changed the market sentiment. Rate-sensitive two-year Treasury yields went up to the highest level since November 2022 on Wednesday morning. The U.S. dollar index also rose to its highest level since the beginning of January.