The US Federal Reserve announced the biggest rate hike since 1994 and said it would continue to push borrowing costs higher in a bid to contain the highest inflation in four decades. Officials announced interest rate hikes of 0.75 percentage points on Wednesday, raising the federal funds reference rate between 1.5 percent and 1.75 percent. The move marks a sharp shift in the world’s largest central bank and indicates the willingness of central banks to push the US economy to prevent prices from going further out of control. Higher interest rates make lending more expensive for households and businesses, with the aim of reducing demand in the economy. This slows down the growth rate of consumer prices. But it could also lead to a recession if the central bank miscalculates and tightens monetary policy by cutting back on consumer spending and business investment and raising unemployment. Bank of Canada would be wise to respond to US Federal Reserve plans for aggressive interest rate hikes Fed interest rate hikes in recent months and increasingly aggressive language have already led to tighter credit conditions in the United States and around the world. Global borrowing costs tend to follow what is happening in the US. This has led to falling house prices in some markets and a sharp sell-off of financial assets such as stocks. Fed officials had previously indicated they would announce a half-point increase this week. But the days leading up to the interest rate decision were surprised by data showing that inflation continues to move higher. It reached a 40-year high of 8.6 percent in May. Reports released in recent days have also shown that Americans are beginning to wait for high inflation – a situation that makes it much harder for the Fed to bring inflation back to 2 percent. “It simply came to our notice then [on inflation]”We did not understand, we had the opposite,” Fed Chairman Jerome Powell told a news conference after announcing interest rates. Inflation was already high for many decades at the beginning of the year, reducing wages and savings in the US. Russia’s invasion of Ukraine has made matters worse, pushing world oil and food prices sharply higher in recent months. This forced central banks, including the Bank of Canada, to start raising interest rates quickly in hopes of preventing inflation from rising as they did in the 1970s and early 1980s. Mr Powell said he did not expect the 75 base units to move jointly. However, he said the Fed would likely consider a 50 or 75 basis point hike at its July meeting, with interest rates set to reach a “moderately restrictive level” by the end of the year. (A base unit is the 100th of a percentage point.) Financial forecasts released on Wednesday show that Fed officials now expect the federal funds rate to rise to 3.4 percent by the end of the year and to 3.8 percent next year. This is a sharp change from March, when officials expected the benchmark interest rate to reach 1.9% by the end of the year and 2.8% by 2023. “We are not going to declare victory until we see real convincing evidence, convincing evidence that inflation is falling,” Powell said. Following the Fed’s sharp rise in interest rates, the stock market fluctuated between fear and relief, reflecting the torturous relationship between stocks and interest rates. Despite the Fed’s aggressive move, the S&P 500 gained 1.46% on the day, while the S & P / TSX Composite Index strengthened by 0.32%. This follows a dramatic sell-off on Monday, as the idea that the Fed would move 75 basis points became widespread in the financial markets. In general, equity investors prefer low interest rates – they make stocks more attractive than low-yield bonds, and their economic impact tends to boost corporate profits by making borrowing cheaper. This was the first two years of the pandemic, when the central bank’s emergency action on interest rates helped orchestrate a monumental stock market recovery. From the lows of March 2020, the S & P / TSX Composite Index almost doubled over the next two years, while the S&P 500 gained about 115%. Now that they have lost control of inflation, central banks can no longer afford to come to the rescue of the stock market as they once did, lowering interest rates when the appetite for risky assets such as stocks collapses. “The Fed’s primary goal is to tame inflation right now, not to stimulate stock markets,” Ipek Ozkardeskaya, a senior analyst at Swissquote Bank, wrote in a note. “And the market downturn seems necessary to achieve that.” But investors generally seem to understand that aggressive policy changes are needed to combat the worst inflation threat in a generation. People with influence in the US financial community, such as activist investor Bill Ackman, have called for huge interest rate hikes to restore the Fed’s credibility in the financial markets. The accelerating pace of interest rate hikes is dangerous. If the Fed tightens monetary policy too much, it could push the US economy into recession. The Fed’s updated economic forecast, released on Wednesday, does not show that the country’s economy is in recession, but shows a slowdown in growth and rising unemployment. The Fed now expects annual GDP growth of 1.7% this year and next year, lower than its forecast for growth of 2.8% this year and 2.2% next year. Meanwhile, it expects the unemployment rate to rise from 3.6 percent today to 3.9 percent next year and 4.1 percent in 2024. “We do not seek to leave people without a job,” Powell said. “Of course, we never think that too many people work and that fewer people should have a job. But we also believe that you really can not have this kind [robust] “We want a labor market without price stability.” He said in May that he expected the US economy to achieve a “mild” landing: lowering inflation without causing a sharp rise in unemployment. He reiterated this point on Wednesday, although he acknowledged that high oil prices and the conflict in Ukraine make it more difficult to achieve a smooth landing. “Many factors we do not control will play a very important role in deciding whether this is possible or not,” Powell said. “There is a way to get there. It does not become easier, it becomes more difficult “. Your time is precious. Have the Top Business Headlines newsletter with convenient delivery to your inbox in the morning or evening. Register today.
