Chocolate pricing

The Fed raises its key rate by half a point to control inflation

WASHINGTON (AP) — The Federal Reserve stepped up its fight against the worst inflation in 40 years by raising its benchmark interest rate by half a percentage point on Wednesday — its most aggressive move since 2000 — and signaling further significant rate hikes to come.

The hike in the Fed’s short-term key rate took it to a range of 0.75% to 1%, the highest point since the pandemic hit two years ago.

The Fed also announced that it would start shrinking its massive $9 trillion balance sheet, which is comprised mostly of Treasuries and mortgage bonds. Reducing these holdings will further increase borrowing costs across the economy.

Speaking at a press conference after the Fed’s last meeting, Chairman Jerome Powell took the unusual step of saying that central bank officials understand the financial pain that high inflation is causing ordinary Americans. But Powell pointed out that the Fed was raising rates sharply for that very reason — to rein in high inflation, keep the economy healthy and ease the stress facing millions of households.

“Inflation is way too high,” he said, “and we understand the difficulties it is causing.”

With food, energy and consumer goods prices accelerating, the Fed’s goal is to dampen spending — and economic growth — by making borrowing more expensive for individuals and businesses. The central bank hopes rising costs for mortgages, credit cards and auto loans will dampen spending enough to bring inflation under control, but not so much as to trigger a recession.

It will be a delicate balancing act. The Fed has faced widespread criticism that it has been too slow to start tightening credit, and many economists doubt it can avoid triggering a recession.

At his press conference, Powell said he was confident the economy was resilient enough to support higher borrowing rates. Job vacancies are at an all time high. There are two jobs available, on average, for every unemployed person. Wages are rising at a historically rapid rate and companies continue to invest in equipment and software.

“I see a strong economy,” he said. “Nothing about it says it’s close or vulnerable to a recession.”

Powell also clarified that further significant rate hikes are coming. He said additional half-point hikes in the Fed’s key rate “should be on the table at upcoming meetings” in June and July.

But he also sought to downplay any speculation that the Fed might consider a rate hike as high as three-quarters of a percentage point.

“A (three-quarters of a point) hike is not something the committee is actively considering,” he said – a remark that sent stock indices skyrocketing. Before he spoke, the Dow Jones Industrial Average had risen only modestly. By the close of trading, the Dow had climbed 930 points, or 2.8%, its best one-day gain since May 2020.

In their statement, central bank policymakers noted that Russia’s invasion of Ukraine was adding to inflationary pressures by raising oil and food prices. He added that “COVID-related lockdowns in China are likely to exacerbate supply chain disruptions,” which could drive prices up further.

Inflation, according to the Fed’s preferred gauge, hit 6.6% last month, the highest in four decades. It was accelerated by a combination of robust consumer spending, chronic supply bottlenecks, and sharply rising gasoline and food prices.

Starting June 1, the Fed said it would allow up to $48 billion in bonds to mature without replacing them for three months, then increase to $95 billion by September. At September’s pace, its balance sheet would shrink by about $1 trillion a year. The balance sheet more than doubled after the pandemic recession as the Fed purchased trillions of bonds in an attempt to keep long-term borrowing rates low.

At the press conference, Powell said the Fed wants to “quickly” raise its key rate to a level that neither stimulates nor hinders economic growth, which the Fed says is around 2.4%. Central bank policymakers suggested they would hit that level. point by the end of the year.

Once the rate hits that level, Powell said that “if we think it’s appropriate” to raise their rate further in the near term, to a level that would restrict growth, “we won’t hesitate.”

Economists warn that some of the factors fueling inflation, including shortages of supplies and workers, are beyond the Fed’s control.

“The Fed can’t solve supply-side problems with higher interest rates,” said Jim Baird, chief investment officer at Plante Moran Financial Advisors. “Fed tightening doesn’t reopen Chinese factories, increase grain shipments from Ukraine, reposition container ships to where they’re needed, or hire truckers to haul goods. .”

Powell, however, said he believed the Fed could cool booming demand and thus help to slow inflation.

The Fed’s credit crunch is already having some effect on the economy. Sales of existing homes fell 2.7% from February to March, reflecting a spike in mortgage rates linked, in part, to the Fed’s planned rate hikes. The average rate for a 30-year mortgage has jumped 2 percentage points since the start of the year alone, to 5.1%.

Powell pointed to the widespread availability of jobs as evidence that the labor market is stretched “to an unhealthy level” and that this is fueling inflation. The Fed chairman is betting that higher rates can reduce those openings, which would likely slow wage increases and ease inflationary pressures, without triggering mass layoffs.

For now, with robust hiring – the economy has added at least 400,000 jobs for 11 straight months – and employers struggling with labor shortages, wages are rising at an annual rate of around 5%. These wage increases result in stable consumer spending despite soaring prices. In March, consumers increased their spending by 0.2% even after adjusting for inflation.

Financial markets are forecasting the Fed rate as high as 3.6% by mid-2023, which would be the highest in 15 years. The reduction in the Fed’s balance sheet will add another layer of uncertainty about the extent of Fed actions that could weaken the economy.

The slowdown in global growth is complicating the Fed’s task. China’s COVID-19 lockdowns threaten to trigger a recession in the world’s second-largest economy. And the European Union is facing higher energy prices and supply chain disruptions after Russia invaded Ukraine.

Additionally, other central banks around the world are also raising rates, a trend that could further jeopardize global growth. On Thursday, the Bank of England is expected to raise its key rate for the fourth consecutive time. The Reserve Bank of Australia raised its rate on Tuesday for the first time in 11 years.

And the European Central Bank, which is struggling with slower growth than in the United States or the United Kingdom, could raise rates in July, economists anticipate.


AP Economics Writer Paul Wiseman contributed to this report.