It’s the question on just about everyone’s mind, from investors to lenders to consumers. What does the Federal Reserve have planned for interest rates in 2023?
Beginning in 2022, the Federal Reserve attacked inflation by aggressively raising the short-term federal funds rate. By the end of 2022, the Fed had introduced seven rate hikes, ending the year with rates at 4.25% – 4.50%.
While slowing inflation’s pace, these rate increases also slowed sales and development in many residential and commercial housing markets as financing became more expensive.
February 2023 began with the Fed’s announcing a .25% rate hike. This was delivered with the following comment:
“In determining the extent of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”
To put the current rate scenario into perspective, it’s important to take a look back to the last three years. During this time, a combination of unforeseen global events that began in early 2020 contributed to a global inflationary trend that appeared in mid-2021.
Here’s a review of the Federal Reserve’s interest rate adjustments from 2020 to 2022.
2020: The Global Pandemic
In response to the COVID pandemic, the Federal Reserve lowered rates several times, bringing them down to 0% to .25%.
After a brief recession in mid-2020, the residential property market took off unexpectedly as millions of workers resigned or chose to work at home.
2021: The Great Reshuffle
The Fed adopted a “wait and see” approach in 2021 as COVID vaccines were introduced and global lockdowns and quarantines continued to fade. But the remote work trend didn’t end.
Instead, millions of workers decided to trade in urban living and high taxes, moving to states that offered higher comfort levels, more work-life balance and lower taxes.
This contributed to a massive spike in residential property sales which was part of The Great Reshuffle: a major shift in workers’ attitudes. Residential property prices rose almost 20% in a year’s time as homes continued to sell at progressively higher prices.
Since The Great Reshuffle increased business in some areas while reducing it in others, many CRE investors and business owners found themselves waiting out the year to see what lay ahead.
For example, demand for office and multifamily leases rose in cities popular with “reshuffling” workers and business, like office space in Salt Lake City, while some office and retail CRE values began to waver as demand for space fell.
2022: Inflation Crashes the Party
Inflation first appeared in 2021 and reached 8.5% in 2022: its highest rate since 1982. In response, the Federal Reserve began raising the fed funds rate to cool the economy, introducing a series of seven rate hikes.
By the end of 2022, interest rates had risen to over 4%. While fears of a recession were still rampant at the end of the year, the nation’s gross domestic product didn’t go into a sustained fall.
But many areas saw falling demand and prices in both residential and commercial real estate markets.
So…what’s the word at the Federal Reserve for 2023, especially where real estate is concerned?
Residential Real Estate’s 2023 Outlook
The 2022 Federal Reserve was determined to battle inflation with a series of no-nonsense rate hikes.
During a November speech, Federal Reserve Chair Jerome Powell took a hawkish approach and declared that “…ongoing rate increases will be appropriate … to move inflation down to 2% over time.”
But a more recent report suggested that the Fed may take a less aggressive approach to rate hikes in 2023, especially since inflation and the job market are both responding to previous rate hikes. The .25% rate hike announced on February 1st supported this view.
Residential and commercial lenders who saw sales plummet during 2022 are especially hopeful that rate increases and inflation will continue to cool, bringing the Fed’s rate adjustments to an end sooner than later.
Freddie Mac economists recently noted that interest rates had inched down during January 2023, and that consumers considering a home purchase should consider buying now, before competition heats up in spring.
Another factor that may help “cancel out” the effect of higher residential mortgage rates: declining home prices. Cities considered overpriced in 2021 and 2022 are seeing some of the biggest price drops. These include Seattle, Dallas, Portland and Phoenix.
Commercial Real Estate’s 2023 Outlook
As in the previous year, CRE investors and owners in areas with increasing populations are more optimistic than those in cities where businesses and workers are departing en masse.
However, office CRE investors and owners across the nation recently received some good news: during January 2023, the number of workers returning to offices rose to over 50%. This indicates that employers are negotiating successfully to retain workers while ending 100% remote work arrangements.
Still, the rate increases caused by inflation have resulted in considerable damage across the board that isn’t expected to be rectified during 2023.
The Federal Reserve’s latest Beige Book, which contains details of lending activity within the 12 Federal Reserve districts, was published in January 2023. The general tone is not optimistic, describing the overall outlook for commercial real estate as slightly worse than the views published in the November 2022 Beige Book.
The Beige Book’s outlook varied between the 12 districts. For example, New York’s CRE outlook was described as “stabilized, though at weak levels” while St Louis was “seeing moderate growth in CRE loans”.
The Boston district, like several others, was seeing rising vacancy rates and flat rent increases in the office sector.
Overall, little growth is expected within the commercial sector during spring and summer 2023.
While the Federal Reserve’s predictions for residential and commercial real estate appear pessimistic, they may be considered realistic since many real estate investors are experiencing fallout from the Federal Reserve’s seven 2022 rate hikes.
The latest rate hike of .25% suggests that the Fed is prepared to take a more dovish approach during 2023 to help contribute to a more positive mood among the nation’s commercial and residential real estate markets.
Other groups, such as the Counselors of Real Estate®, share many of the Fed’s concerns. In mid-2022, the global consortium released its report Top Ten Issues Affecting Real Estate for 2022-2023. These included inflation, interest rates and supply chain disruptions.