After a two-day policy meeting, the Federal Reserve raised interest rates by 0.25 percent on Wednesday, marking the first time since 2018 that the central bank has raised rates in an effort to control inflation.
The Fed also indicated that it will raise interest rates several times this year, a sharp departure from its massive credit-extension policies to aid the ailing economy during the pandemic, and a shift from earlier this year, when the central bank insisted that inflation was “transitory.”
As a result, US stocks soared, with the Dow Jones Industrial Average closing the day up more than 518 points — or more than 1.5 percent — as investors saw a Fed intent on tamping down inflation as a sign that prices would not spiral out of control.
According to Jim Paulsen, chief investment strategist at The Leuthold Group in Minneapolis, many investors may simply be relieved that the Fed is acting.
“Hearing the Fed finally say and act’ on inflation is somewhat reassuring for the investment community, as well as Main Street, which is struggling with higher inflation.”
The Fed projected that its policy rate would be between 1.75 percent and 2 percent by the end of the year, in a new aggressive stance against inflation that will push borrowing costs to restrictive levels in 2023.
Fed Chair Jerome Powell speaks at a press conference following the decision.
courtesy of Reuters
The ongoing Russian invasion of Ukraine, the COVID-19 pandemic, and supply chain disruptions were also cited as key factors in the central bank’s decision. It reduced its GDP growth forecast for this year from 4.0 percent in December to 2.8 percent.
The central bank said in a statement that “ongoing increases” in the target federal funds rate “will be appropriate” to combat the highest inflation in 40 years.
“We need to get away from very low-interest rates,” Fed Chairman Jerome Powell said earlier this month to Congress. “They are not appropriate for the current economic situation.”
Powell reiterated those sentiments in a press conference following the Fed’s rate hike on Wednesday. He stated that the economy was strong and that the Fed would raise interest rates more aggressively in the future if necessary to control inflation.
“We’re thinking about it in terms of every meeting being a live meeting,” Powell said. “We’ll be looking at evolving conditions, and if we conclude that it would be appropriate to remove accommodation more quickly, we’ll do so.”
Higher interest rates mean that borrowing money from lenders will be more expensive. The hope is that raising the interest rate will result in less consumer spending on discretionary items, lowering prices.
Analysts predicted that the Fed would raise interest rates in order to cool soaring inflation, which reached a four-decade high in February.
The goal is to control inflation while avoiding a recession. The Russian invasion of Ukraine has complicated this task in recent weeks, roiling energy markets and causing further disruptions in the global supply chain.
According to federal data released on Tuesday, wholesale inflation was still very high last month, but it was not accelerating. Producer prices were 10% higher in February compared to the previous year, the same rate as in January.
In February, inflation increased 0.8 percent from January, compared to forecasts of 0.9 percent. This is a slowdown from the 1.2 percent month-over-month increase in January.
Powell and his Fed governors expected supply chain disruptions to resolve in time, lowering the Consumer Price Index before the end of the year.
However, observers now believe that high levels of inflation will persist well into 2023.