The Federal Reserve delivered its fourth interest rate hike of the year on Wednesday and left no doubt more increases would be needed to tame the wildest inflation in four decades, even as the economy shows signs of cooling off.
Wrapping up a regularly scheduled two-day meeting, central bank officials boosted the benchmark federal funds borrowing rate by an unusually large three-quarters of a percentage point. They lifted the rate by the same amount at its mid-June meeting, which was the biggest increase since 1994.
The Fed’s goal is to pop the inflation bubble by pushing up the cost of credit card debt, car loans, and mortgages, as well as making it more onerous for businesses to borrow for expansion. Inflation is a global scourge, and central banks in Canada, Europe, and elsewhere are also raising rates in a bid to curb the high demand for goods and services that is largely responsible for driving up prices and wages.
The Fed has raised rates by 2.25 percentage points since March, the sharpest series of increases since the early 1980s, when Paul Volcker, then at the helm of the central bank, shoved the economy into a recession to break the back of inflation that peaked at nearly 15 percent.
Today, inflation is running at more than 9 percent, the highest since the Volcker days.
At a post-meeting news conference, Fed Chairman Jerome Powell said he continued to believe that a “soft landing” — gradually bringing down inflation without triggering an economic contraction — is possible.
“I don’t think the US is in a recession right now,” he said. But Powell conceded that ”we know that the path [to a soft landing] has clearly narrowed.”
Powell said recent data on spending and production suggested some air was coming out of the economy. And some of the biggest causes of inflation — energy and food costs — are pulling back. Still, with unemployment back to pre-pandemic levels and employers adding jobs at a strong clip, higher rates are needed.
“We need a period of growth below potential . . . some slack, so [labor] supply can catch up,” he said, adding that “some softening” in the job market was inevitable as the cost of borrowing rises.
Breaking from recent practice, Powell declined to give specific guidance on the Fed’s next move. Instead, he pointed to the most recent forecasts by members of the bank’s Federal Open Market Committee showing the fed funds rate could reach as high as 3.5 percent by the end of the year, and close to 4 percent in 2023. He wouldn’t rule out another three-quarters of a point increase at the Fed’s next meeting in September, but also said future rate hikes may be less aggressive.
“This is a committee that is very committed to price stability,” said Christine Cooper, chief US economist at CoStar Group. “There is a recognition that there is going to be some higher unemployment.”
Many progressive economists are worried that the Fed is following an out-of-date script that says the only way to undercut inflation is with steps that also kill jobs.
“The strong labor market is not a problem,” said Claudia Sahm, a consultant and former Fed and White House economist. “A recession is worse than inflation,” she said, and it will be low- and moderate-wage workers “who will pay to get inflation down” to the Fed’s 2 percent longer-term target.
Wall Street seemed to take the rate hike in stride. US stocks added to their gains for the day after the Fed’s announcement, with the Standard & Poor’s 500 index rising 2.6 percent. The index is still down more than 15 percent this year. The yield on the 10-year Treasury fell to 2.79 percent as the price rose. The yield stood at 3.48 last month but has fallen back amid concerns that the economy is rapidly decelerating.
The Fed’s target for its benchmark rate is now in a range of 2.25 to 2.5 percent, up from near-zero in March, when the central bank launched its anti-inflation campaign. The rate was last at this level from December 2018 through September 2019, after the Fed used a series of increases to end a long period of ultra-cheap money following the Great Recession.
The decision by the Open Market Committee was unanimous, with two new members — Michael Barr and Susan Collins, who recently took over as president of the Federal Reserve Bank of Boston — voting for the first time.
The fed funds rate, the central bank’s primary inflation-fighting tool, is used for overnight loans between banks, and influences many other borrowing costs.
But rates are also a blunt tool, and the central bank risks reducing demand so much that it causes a recession. Moreover, key drivers of the current bout with inflation are beyond the Fed’s control: the increase in energy and food prices caused by the war in Ukraine, and pandemic-related disruptions to production and supply chains.
Consumers have an even dimmer view, with 46 percent of Massachusetts residents saying a recession is already underway, according to a new Suffolk University/Boston Globe poll. Another 21 percent of respondents said the economy was stagnating.
Those numbers, which are broadly consistent with national polling, spell trouble for the Biden administration and Democrats as the November midterm elections approach.
In recent weeks there have been signs inflation may have peaked. Gasoline prices have fallen 14 percent since hitting more than $5 a gallon in June. The housing market is starting to weaken amid sharply higher mortgage rates. And consumer expectations for future price increases — a key indicator of how entrenched inflation may become — have fallen significantly.
With their latest increase, members of the Open Market Committee now view rates as being at a neutral level; that is, they are neither so low they overstimulate the economy or so high they hold back economic growth. Still, the central bankers aren’t ready to ease up just yet.
Powell said the Fed would need to make monetary policy “moderately restrictive” to reduce inflation substantially, which he said was necessary for the long-term health of the economy. That means raising rates until there is clear evidence inflation is in full retreat.
“Restoring price stability is what we have to do,” he said.