When Might the Federal Funds Rate Lift Off? - Computing the Probabilities of Crossing Unemployment and Inflation Thresholds (and Floors)

Sep 29, 2026

Upload by Franzy

Explores how the Federal Open Market Committee’s threshold-based forward guidance implies timing for when the federal funds rate target may change. Develops a forecasting model to estimate when unemployment and inflation thresholds are likely to be breached, and contrasts the most probable path with a wider distribution of outcomes. Further analyzes how alternative inflation floors could shift liftoff timing, including delays under 1.5% and larger effects under 1.75%.

LanguageEnglish

CategoryResearch & Report

FormatPDF

Pages9

Reading Time23 min

AccessFree to download

When Might the Federal Funds Rate Lift Off?

Computing the Probabilities of Crossing Unemployment and Inflation Thresholds (and Floors)

Interpreting the Thresholds

A Forecasting Model

# When Might the Federal Funds Rate Lift Off? ## Computing the Probabilities of Crossing Unemployment and Inflation Thresholds(and Floors) Edward S.Knotek II and Saeed Zaman The Federal Open Market Committee has been providing guidance to help markets anticipate when it will begin raisingthe federal funds rate target.The most recent guidance suggests that the target will not change at least until after anunemployment or inflation threshold is breached.We use a forecasting model to estimate when these thresholds arelikely to be breached.We also consider how an inflation floor would affect the timing of liftoff. At its December 2012 meeting,the Federal Open MarketCommittee(FOMC)changed its forward guidance for thefederal funds rate.Previously,the FOMC used date-basedguidance,suggesting that the funds rate target would remainunchanged until a particular date was reached.The FOMCreplaced this date-based guidance with guidance based onthresholds for unemployment and inflation.Put simply,thenew guidance-which the FOMC has continued to use-suggests that the funds rate target will not change at leastuntil after a threshold is breached. When might the thresholds be breached?In this Commentary,we use a forecasting model to provide answers to thisquestion.Based on our model,the single most likelyscenario is for the unemployment rate to cross its thresholdby the third quarter of 2015,well before the inflationthreshold is likely to be breached.However,that outlookis only one possibility identified in the forecasting model:a wide range of outcomes is possible beyond this singlescenario.After accounting for the spectrum of potentialoutcomes,we show that there is greater than a 50 percentprobability that at least one threshold will be breached twoquarters earlier,in the first quarter of 2015. Using our framework,we also consider the suggestionthat an inflation floor might be a valuable addition to theFOMC's forward guidance-in essence,promising not toraise the funds rate target if inflation is below some value,even if unemployment crosses its threshold.We show that in this model an inflation floor of 1.5 percent would delayby one quarter the most likely point at which both the floorwould be satisfied and at least one threshold crossed.Bycontrast,an inflation floor of 1.75 percent would create amuch longer delay of four quarters. ## Interpreting the Thresholds As of the FOMC's October 2013 meeting,the forwardguidance for the federal funds rate target was as follows: “[T]he Committee decided to keep the target rangefor the federal funds rate at 0 to 1/4 percent andcurrently anticipates that this exceptionally lowrange for the federal funds rate will be appropriateat least as long as the unemployment rate remainsabove 6-1/2 percent,inflation between one andtwo years ahead is projected to be no more thana half percentage point above the Committee's2 percent longer-run goal,and longer-term inflationexpectations continue to be well anchored...” The unemployment threshold is expressed in terms ofcurrent conditions,and the unemployment rate for theprevious month is published regularly by the Bureau ofLabor Statistics on the first Friday of the month.As a result,we can simply monitor whether the quarterly averageunemployment rate falls below 6.5 percent in our model todetermine whether the unemployment rate threshold hasbeen breached. The conditions related to inflation do not have the samesimplicity because they are forward-looking.Forward-looking infation conditions give policymakers theopportunity to head off future inflation while looking pasttransitory price changes,though it makes it harder forus to determine when the thresholds might be breached.Consider first the clause concerning inflation expectations.There are a variety of measures of infation expectationsthat come from su'veys,financial markets,and statisticalmodels.In addition,there are a variety of ways to interpret“longer-term”and “well anchored.”To simplify the ana

FAQs

What changed in the FOMC’s forward guidance for the federal funds rate?

The FOMC moved from date-based guidance to guidance tied to thresholds for unemployment and inflation, implying the rate target would not change until at least one threshold is breached.

When does the model suggest thresholds are most likely to be crossed?

The single most likely scenario is that the unemployment rate crosses its threshold by the third quarter of 2015, well before the inflation threshold is expected to be breached.

How can an inflation floor affect the timing of rate liftoff?

An inflation floor can delay liftoff by requiring both the floor and at least one threshold to be satisfied; the text reports delays of one quarter for a 1.5% floor and up to four quarters for a 1.75% floor.

Sep 29, 2026

Upload by Franzy