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Supply Constraints And Inflation Concerns Deter Economic Growth

Katie Jensen
Oct 15, 2021

The ESR Group expects The Federal Reserve to begin tapering assets in the purchase program by the end of the year.

KEY TAKEAWAYS
  • ESR Group revised downward its 2021 real gross domestic product (GDP), reducing growth projections from 5.4% to 4.9%.
  • Annual inflation is expected to reach 5.7% by the end of 2021, which is higher than the previously projected 5.4%.
  • To stave off high inflation, the ESR Group expects The Federal Reserve to begin tapering assets in the purchase program by the end of the year, and also expects the first federal funds rate hike to take place in the fourth quarter of 2022.
  • Benchmark interest rates are expected to rise due to increased inflation expectations and the tightening of monetary policy. 

For the third consecutive month, the Economic and Strategic Research (ESR) Group revised its full-year 2021 real gross domestic product (GDP) downward, slowing growth projections from 5.4% to 4.9%, reflecting a more pessimistic view of when the supply chain will get up to speed. The ESR Group also upwardly revised its inflation projections and expectations that service-related consumer spending will take longer to return back to normal. 

Annual inflation, measured by the Consumer Price Index, is expected to reach 5.7% by the end of 2021, which is higher than the previously projected 5.4%. This is mainly due to elevated energy prices domestically and abroad. To stave off extraordinarily high inflation, the ESR Group expects The Federal Reserve to begin tapering assets in the purchase program by the end of the year, and also expects the first federal funds rate hike to take place in the fourth quarter of 2022. 

“While we still view the supply chain disruptions and, to a lesser extent, labor market tightness as largely transitory, we now expect both to last even longer than we'd previously forecast – and also likely longer than the Federal Reserve anticipated," said Doug Duncan, Fannie Mae senior vice president and chief economist. "Combined with our expectation that inflation will run above-target over the forecast horizon, we foresee growing clamor from market participants for the Fed to begin tightening monetary policy: first by tapering asset purchases and then, in the fourth quarter of 2022, by raising the federal funds rate target range for the first time since December 2018.”

Additionally, the ESR Group found that supply chain disruptions for housing, including home price growth and mortgage rate expectations, go hand-in-hand with higher inflation. The ESR Group forecasts mortgage rates to average 3.3% in 2022, measured by the FHFA Purchase-Only Index, up from last month’s projection of 3.1%. Benchmark interest rates are expected to rise due to increased inflation expectations and the tightening of monetary policy. 

Although the ESR Group expects home price growth to decelerate moving into 2022, it revised its home price growth forecast by 1.8 points to 16.6% for 2021, and 2.3 points to 7.4% for 2022. This is in large part due to tight inventory levels. 

"Even a modest tightening of monetary policy would of course impact housing, but we expect the effects to be largely muted given current market conditions," Duncan continued. "Mortgage rates may rise in response to the tighter environment, but we expect the severe shortage of homes for sale to remain the primary driver of strong house price appreciation through at least 2022, limiting interest rate effects on home sales and home prices. Right now, we forecast mortgage rates to average 3.3 percent in 2022, which, though slightly higher than 2020 and 2021, by historical standards remains extremely low and supportive of mortgage demand and affordability."

New single-family home construction remains to be in high demand, but they are hindered by the same supply constraints, including the availability of materials and skilled labor. The ESR Group expects these issues will persist well into next year. 

The full October 2021 Economic Outlook is available on Fannie Mae’s website.

 

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