by Christopher Ragber
WASHINGTON (AP) – The Federal Reserve on Wednesday intensified its fight against inflation by raising its benchmark interest rate by half a percentage point – its most aggressive move since 2000 – and signaling major rate hikes to come. gave.
The Fed’s key short-term rate hike raised it to 1% from 0.75%, the highest point since the pandemic two years ago.
The Fed also announced that it would begin shrinking its massive $9 trillion balance sheet, which is primarily made up of Treasury and mortgage bonds. Reducing those holdings would further increase the cost of borrowing across the economy.
Speaking at a news conference after the Fed’s latest meeting, Chairman Jerome Powell took the unusual step of saying that central bank officials understood the financial pain that high inflation is causing ordinary Americans. But Powell insisted the Fed is raising rates sharply for the same reason — to rein in high inflation, preserve the health of the economy and ease the stress of millions of households.
“Inflation is very high,” he said, “and we understand the difficulty it causes.”
With prices for food, energy and consumer goods rising, the Fed aims to cool spending – and economic growth, by making it more expensive for individuals and businesses to borrow. The central bank expects that higher costs for mortgages, credit cards and auto loans will slow spending enough to beat inflation, yet not so much to cause a recession.
It will be a delicate balancing act. The Fed has faced widespread criticism that it was too slow to begin tightening credit, and many economists doubt it could avoid creating a recession.
In his news conference, Powell said he is confident the economy is resilient enough to face higher lending rates. Job openings are at record highs. On an average there are two jobs available for every unemployed person. Wages have historically been rising at a faster rate, and businesses continue to invest in equipment and software.
“I see a strong economy,” he said. “Nothing about it says it’s near or weakening a recession.”
Powell also clarified that big rate hikes are coming ahead. He said an additional half-point increase in the Fed’s key rate “should be on the table in the next few meetings” in June and July.
But he also sought to quell any speculation that the Fed may consider a rate hike as high as three-quarters of a percent.
“A (three-quarters of a point) hike is not something the committee is actively considering,” he said – a remark that led to a jump in the stock index. Before he spoke, the Dow Jones Industrial Average was up only marginally. By the end of trading, the Dow was up 930 points, or 2.8% – its best one-day gain since May 2020.
In their statement, policymakers at the central bank said rising oil and food prices from Russia’s invasion of Ukraine are adding to inflationary pressures. It added that “the COVID-related lockdown in China is likely to lead to increased supply chain disruptions,” which could further push up prices.
Inflation hit 6.6% last month, the highest in four decades, according to the Fed’s preferred gauge. This has been accelerated by a combination of strong consumer spending, chronic supply constraints and increasingly high gas and food prices.
From June 1, the Fed said it would allow up to $48 billion in bonds to mature without changing for three months, then move to $95 billion by September. At the pace of September, its balance sheet will shrink by about $1 trillion annually. Balance sheets more than doubled after the pandemic slowdown as the Fed bought trillions of bonds to try to slash long-term lending rates.
At the news conference, Powell said the Fed wants to “rapidly” raise its key rate to a level that neither stimulates nor inhibits economic growth, which the Fed said is around 2.4%. Central bank policymakers have suggested that they will reach that point by the end of the year.
Once the rate reaches that level, Powell said “we won’t hesitate” to raise his short-term rate further, which would restrict growth, “if we believe it is appropriate.”
Economists warn that some of the factors driving inflation – in particular, supply and labor shortages – are outside the Fed’s ability to resolve.
“The Fed can’t fix the supply-side challenges with higher interest rates,” said Jim Baird, chief investment officer at Plant Moran Financial Advisors. “Fed tightening does not reopen sugar factories, does not increase grain shipments from Ukraine, reposition container ships where they are needed or hire truckers to carry goods Huh.”
Powell said, however, that he thinks the Fed can calm rapidly rising demand and thereby help slow inflation.
The Fed’s credit tightening is already having some effect on the economy. Sales of existing homes fell 2.7% from February to March, reflecting a rise in mortgage rates related to the Fed’s planned rate hikes. The average rate on a 30-year mortgage has jumped 2 percentage points to 5.1% since the beginning of the year.
Powell points to the widespread availability of jobs as evidence that the labor market is tight “to unhealthy levels” and fuels inflation. The Fed chair is betting that higher rates could ease those openings, which would likely slow wage growth and ease inflationary pressures without triggering massive layoffs.
For now, with strong hiring – the economy has added at least 400,000 jobs for 11 straight months – and employers grappling with labor shortages, wages are rising at a nearly 5% annual pace. Those wage hikes are driving steady consumer spending despite price increases. In March, consumers increased their spending by 0.2%, even after adjusting for inflation.
Financial markets are pricing in the Fed rate as high as 3.6% by mid-2023, the highest it will be in 15 years. Shrinking the Fed’s balance sheet would add another layer of uncertainty, which could undermine the economy.
Complicating the Fed’s task is a slowdown in global growth. The world’s second largest economy is at risk of recession due to the COVID-19 lockdown in China. And the EU is facing high energy prices and supply chain disruptions after Russia’s invasion of Ukraine.
In addition, other central banks around the world are raising rates as well, a trend that could further stifle global growth. On Thursday, the Bank of England is expected to raise its key rate for the fourth time in a row. The Reserve Bank of Australia on Tuesday raised its rate for the first time in 11 years.
And the European Central Bank, which has been battling slower growth than the United States or the United Kingdom, could raise rates in July, economists expect.
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AP Economics writer Paul Wiseman contributed to this report.
