By Howard Schneider

WASHINGTON, (Reuters) – New Federal Reserve economic projections this week will reveal how quickly and far policymakers expect interest rates to rise this year. This is a test of how the Ukraine war has affected policymakers and the surging inflation that could result from U.S. monetary policies shifting.

Fed’s policy-setting Committee is likely to hike borrowing costs by 25% after its Wednesday meeting. The session sets the tone for central bank’s response in the wake of an energy-shock caused by war, and is correlated with strong consumer demand.

Officials are expected to release their latest quarterly economic projections along with a statement on Wednesday at 2 PM EDT (1800 GMT). Updated outlooks will show how aggressively policymakers might be raising interest rates, and whether it could impact an expected record-breaking run of low unemployment.

Fed Chair Jerome Powell plans to host a press conference soon after the materials are available to discuss the meeting’s outlook.

The December report showed that policymakers were able to fight inflation with modest increases in rates and little change to unemployment, currently at 3.5% through 2024. It is a new employment scenario not seen since 1950, during the post-World War II boom.

According to Steve Englander of Standard Chartered Bank (OTC) North America head for macro research, this week’s meeting is “complicated” because it will be necessary to react quickly to rising inflation. However, the goal is to keep prices low and not increase the unemployment rate.

Fed officials predicted that in order to ease inflation towards the goal of 2%, raising the benchmark overnight, or federal, interest rate by three-quarters percent would suffice in 2022.

Price increases have increased rapidly since then – currently, the Fed prefers a 6% inflation rate – while the new risks posed by the European war on terror are increasing. Englander stated that Fed officials might still be reluctant to adopt restrictive policies in the future, which could increase the likelihood of recession and increasing joblessness.

He said that they were not persuaded by “ultra-hawkish arguments” which would see the Fed raise rates at seven of its last policy meetings in the year.

HAWKISH MESSAGE

Englander stated that he believes the Fed will announce rate hikes totaling 1.25- 1.50 percentage points in 2019, which is lower than most investors expect.

The median estimate of economists polled by Reuters also projects the Fed will lift the target federal funds rate from the current near-zero level to a range of between 1.25% to 1.50% by the end of 2022, equivalent to five quarter-percentage-point increases.

Futures investors who are tied to the Fed target federal funds rates see the Fed increasing borrowing costs slightly quicker to finish the year at its current policy rate of 1.75% to 2.00%.

Since the COVID-19 pandemic, the Fed’s forecasts of the U.S. economic future have not been in line with actual developments.

The unemployment rate dropped faster than anticipated, growth was more rapid, and inflation went up well beyond expectations.

Fed projections catching up to the economy caused the Fed’s policy outlook to adjust. Officials penciled in additional rate hikes for next year.

But they still believed in a soft landing, even as December approached.

For inflation to decrease, the federal funds rates would need to increase to around 2.1% by 2024. That is an extremely low historical rate and enough for economic growth to be above the trend. The unemployment rate will remain at 3.5% until 2024.

When the dust settles, Wednesday may not be so bright.

Analysts at Bank of America (NYSE) wrote that growth and unemployment need to be revised lower, while core and headline (personal consumption expenditures), inflation should get revised higher. “We expect a hawkish message by Chair Powell who will likely repeat the fact that price stability is a priority for the Fed.”