The Federal Reserve on Wednesday raised a key U.S. interest rate for the fourth time this year in an aggressive bid to cool off the hottest inflation in four decades, signaling more rate hikes are coming even as the economy softens.
The central bank voted unanimously to lift the so-called fed funds rate by another 0.75 percentage points to a range of 2.25% and 2.5%.
Higher rates raise the cost of borrowing for businesses and consumers and tend to slow the economy by making it more expensive to take out a loan, get a car or buy a house. And when the economy slows, inflation also tends to dissipate.
Rising rates — they are rising at the fastest pace since 1981 — already appear to be having a dampening effect on the economy. The Fed noted that “recent indicators of spending and production have softened.”
Yet central bank officials signaled they are not about to let up. “Ongoing increases” in interest rates “will be appropriate,” the Fed said.
“While there are looming concerns over growth, the Fed has decided that in the battle against inflation, it will shoot first and ask questions later,” said chief economist Avery Shenfeld of CIBC World Markets.
At the same time, though, the Fed has tried to reassure Main Street and Wall Street that the economy is still on solid footing. The bank also noted that “job gains have been robust in recent months, and the unemployment rate has remained low.”
“I don’t think the economy is in recession right now,” Fed Chairman Jerome Powell said in a press conference. “We are not trying to have a recession and we don’t have to.”
One key question for economists is how far the Fed will eventually have to raise its benchmark rate into “restrictive” territory to bring inflation down. Rates are considered restrictive when they significantly slow the growth in the economy.
The level of rates right now matches what the Fed considers neutral — neither boosting nor slowing the economy.
Powell was noncommittal about future rate increases. Rates would go higher, he said, but the Fed would make that decision based on the incoming economic data.
Nor did Powell reveal his hand on whether the Fed would push rates up by 50 or 75 basis points at the next policy meeting in September.
In the long run, the Fed’s goal is to return inflation to its 2% target. The cost of living has surged to a nearly 41-year high of 9.1% in the 12 months ended in June, up from less than 2% just 18 months ago.
The rate of inflation hovered at or below 2% in the decade preceding the pandemic.
Yet U.S. financial markets have suddenly switched to seeming to fear a recession more than the runup in inflation. The yield on the 10-year Treasury note BX:TMUBMUSD10Y has fallen 70 basis points since the last Fed meeting in June.
Traders in the fed funds futures market now expect the Fed to reverse course and cut rates in the middle of 2023.
Many economists view the situation differently. They think the Fed might have to continue to raise its benchmark rate to 5% o r higher to quell inflation.
By contrast, the Fed in June penciled in raising its benchmark rate to near 3.5% this year and to close to 4% next year.