The Federal Reserve raised its benchmark interest rate by a quarter of a percentage point, the first increase since 2018 and the start of what US central bank officials have signaled as a series of hikes this year with further increases expected in the remaining six policies. meetings.
At the end of its two-day policy meeting on Wednesday, the Federal Open Market Committee raised the federal funds rate by a quarter of a percentage point, bringing the target range to 0.25-0.50%. It is the latest major step for the U.S. economy in its post-pandemic recovery and the strongest move yet to tackle the highest inflation in four decades.
In a press conference after the meeting, Fed Chairman Jay Powell said the committee had raised rates “against the backdrop of an extremely tight labor market and high inflation” and that it “expects that continued increases in the target range of the federal funds rate will be appropriate”.
The FOMC was not unanimous in its support for the quarter-point hike, however, with St. Louis Fed President James Bullard dissenting in favor of a half-point hike.
Powell left the door open to raising interest rates in increments above a quarter point this year, and said the committee was “extremely aware of the need to return the economy to price stability and determined to use our tools to do just that”.
Fed officials have revised their interest rate projections sharply upwards this year from three months ago, when they forecast rate hikes of three-quarters of a point in 2022, followed by five more. in 2023 and 2024.
The so-called dot plot of senior officials’ individual interest rate projections now points to six more increases in 2022, on top of the March move.
At least three increases have been scheduled for 2023, bringing the federal funds rate to 2.8%, above a “neutral” stance that neither stimulates nor limits growth. A majority of Fed officials are forecasting a neutral rate of 2.4%. No rate hike was expected in 2024.
Underscoring the enormity of the hawkish turn that has taken place in just a few months, officials were equally divided on the need for an interest rate hike this year as recently as September.
US stocks and government bond prices swirled after the announcement. The yield on the benchmark 10-year Treasury hit its highest level in almost three years shortly after the news, before falling back to 2.17%. Bond yields fall when prices rise.
The S&P 500 briefly turned negative after the Fed announcement, before rallying sharply at the close to end up 2.2%. The tech-heavy Nasdaq Composite rose 3.8%.
The Fed’s move to a much tighter monetary policy comes despite a sharp escalation in tensions resulting from Russia’s invasion of Ukraine. The European Central Bank also took a more aggressive stance this month, scaling back its bond-buying plan as the war boosted inflation expectations.
Powell acknowledged the geopolitical uncertainty clouding the outlook and stressed that the conflict is likely to put “additional upward pressure on short-term inflation here at home and weigh on economic activity as well.”
While the central bank has typically delayed major policy decisions during times of acute conflict to avoid exacerbating volatility, soaring inflation and an extremely strong labor market have prompted the Fed to forge ahead. .
On Wednesday, Fed officials also revised up their inflation forecast, which is derived from the personal consumption expenditure price index. The median estimate of year-end core inflation, which excludes volatile items such as food and energy, rose to 4.1% from 2.7% in December. Estimates for next year have also risen, with most officials now expecting the core PCE index to hover between 2.6% and 2.3% in 2024. It currently sits at 5.2%, well below above the Fed’s 2% target.
The decision showed that “the Fed is very concerned about inflation,” said Bob Michele, chief investment officer at JPMorgan Asset Management. “There’s still a lot of reopening to come, and they need to start normalizing things.”
Brian Smedley, chief economist at Guggenheim Partners, said the Fed had “acknowledged the war in Ukraine. . . puts more pressure on inflation,” adding, “They also recognized widening price pressures, which requires a stronger policy response.
The median estimate for US economic growth also moderated to 2.8% from the 4% pace projected in December, while the unemployment rate forecast held steady at 3.5%. The majority of Fed officials expect the unemployment rate to hit 3.6% in 2024.
The Fed also hinted that a reduction in its huge balance sheet would come soon – it more than doubled to $9 billion during the pandemic as the central bank clawed back government bonds as part of its efforts to support the economy.
Powell said the committee was finalizing its plans to begin reducing its holdings of Treasury agency mortgage-backed securities and would announce further details at the May meeting.
Additional reporting by Eric Platt and Kate Duguid