The Fed is taking aggressive action in the fight against inflation

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The Federal Reserve took its most aggressive step yet to try to rein in persistently rapid inflation, raising interest rates by three-quarters of a percentage point on Wednesday and signaling that it is ready to inflict economic hardship to control prices.

The rate hike was the central bank’s biggest since 1994 and could be followed by a similar-sized move next month, Fed Chairman Jerome H. Powell suggested, noting how much the gains America’s surprisingly stubborn price action unsettles Fed officials.

As central bankers rapidly raise their policy rate, it will make buying a home or expanding a business more expensive, restrain spending and slow the economy as a whole. Officials expect growth to slow in the months and years ahead and predicted that unemployment will rise by about half a percentage point to 4.1% by the end of 2024, as their policy squeezes businesses and workers.

Mr Powell acknowledged that it was becoming increasingly difficult for the Fed to slow inflation without triggering a recession as external forces, including the war in Ukraine and factory closures in China, threatened to dampen inflation. supply of goods and raw materials such as oil. If the Fed has to stifle demand to the extreme in an effort to bring it into line with limited supply, it could lead to a crisis that would leave businesses shuttered and people unemployed.

“We’re not trying to cause a recession right now, let’s be clear about that,” Powell said, explaining that the Fed still wants to cut inflation to its 2% target while maintaining a labor market. strong – an outcome economists call a “soft landing”.

But “these routes have become much more difficult due to factors beyond our control,” he said, adding later that “the environment has become more difficult, clearly, over the last four or five months.” .

The latest decision set the Fed’s key rate in a range of 1.50% to 1.75%, and more rate hikes are on the way. Mr Powell signaled that the debate at the next meeting of the Federal Open Market Committee in July will center on whether to raise rates by half a point or repeat a three-quarter point hike, although he added that he “didn’t expect moves of this size to be common.

Officials expect interest rates to hit 3.4% by the end of 2022, according to economic projections they released on Wednesday, which would be the highest level since 2008. They also expect the Fed’s key rate to peak at 3.8% at the end of 2023, up from 2.8% when the projections were last released in March.

As rates rise, policymakers expect growth to slow and unemployment to edge up starting this year.

“What Powell and the rest of the FOMC are saying is that restoring price stability is the main goal – if they risk a mild recession or a bumpy soft landing, it would still succeed,” Kathy said. Bostjancic, chief economist of the United States at Oxford. Economy. “The focus is on inflation right now.”

Until the end of last week, investors and many economists expected the central bank to raise interest rates by only half a percentage point at this week’s meeting. The Fed had raised rates by a quarter point in March and half a point in May, and signaled that it planned to maintain that pace in June and July.

But central bankers have received a series of bad news on inflation in recent days. The consumer price index jumped 8.6% in May from a year earlier, the fastest increase since late 1981. The pace was strong even after food prices were suppressed and fuel.

While the Fed’s favorite price indicator – the Personal consumption expenditure measure – rises slightly slower, it also remains too warm for comfort. And consumers are starting to expect faster inflation in the months and years to come, based on surveys, which is a worrying development. Economists believe that expectations can be self-fulfilling, causing people to demand wage increases and accept price hikes in a way that perpetuates high inflation.

“What we’re looking for is compelling evidence that inflationary pressures are easing and inflation is coming back down,” Powell said at his press conference on Wednesday, noting that instead the situation of inflation worsened. “We thought strong action was warranted.”

A Fed official, Federal Reserve Bank of Kansas City President Esther George, voted against the rate hike. Although Ms George has always worried about high inflation and favored higher interest rates, she would have preferred a half-point move in this case.

Some analysts said the Fed’s economic projections and Mr. Powell’s view that a soft landing might still be possible are optimistic in light of the more aggressive policy path charted by the central bank. Wells Fargo economists announced after the Fed meeting that they expected a slowdown to begin in the middle of next year.

“The Fed is getting a little more realistic about the difficulty of bringing inflation down without doing damage to the labor market,” said Sarah House, senior economist at Wells Fargo. “There’s this growing recognition that a soft landing is getting harder and harder – I still think they paint a pretty rosy picture.”

Stock prices have fallen and bond market signals are flashing red as traders and economists on Wall Street increasingly expect the economy to tip into a recession. On Wednesday, the S&P 500 rose 1.5%, climbing after the release of the decision and Powell’s press conference, likely because investors were already expecting the Fed to make a big move.

The economy remains strong for now, but the Fed’s actions are starting to have a real impact: Mortgage rates have risen sharply and are helping to cool the housing market; demand for consumer goods shows signs to begin to slow down as borrowing becomes more expensive; and employment growth, although robust, has begun to moderate.

While the economic path ahead may be rocky, Fed policymakers argue things would be worse in the long run if they didn’t act. As prices rise, workers’ compensation does not. This means families are falling behind as they try to pay for gas, food and rent, even in a very buoyant job market.

“You really can’t have the kind of labor market that we want without price stability,” Powell said on Wednesday, explaining that what officials want is a labor market with plenty of job opportunities. employment and rising wages. “That’s not going to happen with the levels of inflation we have.”

The White House has stressed that the Fed is playing the key role in bringing inflation down, even as the Biden administration does what it can to cut some costs for beleaguered consumers and urges businesses to improve supply in gas.

“The Federal Reserve has the primary responsibility for controlling inflation,” President Biden said. wrote in a recent opinion column. He added that “past presidents sought to influence his decisions inappropriately during times of high inflation. I will not do that.

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