The Federal Reserve increased its benchmark interest rate by a significant three-quarters of a point for the third time in a row on Wednesday in an effort to combat high inflation. This aggressive pace will increase the likelihood of an eventual recession.
The Fed's action increased the benchmark short-term rate, which has an impact on many consumer and commercial loans, to the highest level since early 2008, in the 3% to 3.25% range.
The policymakers also predicted that they would increase their benchmark rate by another full point, from the level they had anticipated as recently as June, to approximately 4.4% by the end of the year. And they anticipate raising the rate once more the following year, to roughly 4.6%. The level would be the greatest since 2007.
The Fed increases borrowing costs, making it more expensive to get a mortgage, a vehicle loan, or a business loan. After that, it is likely that people and businesses would borrow less and spend less, which will limit inflation and cool the economy.
The headline inflation rate, which was a still-painful 8.3% in August compared to a year earlier, has been modestly reduced by falling gas prices. The recent increase in President Joe Biden's public approval ratings, which Democrats hope will improve their chances in the November midterm elections, may have been influenced by those falling gas prices.
Chair Jerome Powell stated at a news conference that the Fed would "want to be extremely convinced that inflation is heading back down" to their 2% objective" before considering stopping rate hikes. He pointed out that the robust employment market is fueling salary increases, which are assisting in raising inflation.
He also emphasized his view that controlling inflation is essential to preserving the long-term viability of the labor market.
We need to put inflation behind us if we want to pave the path for another period of a very strong job market, according to Powell. I wish there were an easy method to accomplish that. There is none.
Officials from the Fed have stated that they are aiming for a "soft landing," whereby they can manage to limit GDP just enough to control inflation but not enough to start a recession. Though most economists are dubious. According to them, the Fed's sharp rate increases would eventually result in job losses, growing unemployment, and a full-blown recession in the latter part of this year or early in the following year.
Powell stated at his news conference that "no one knows if this process will lead to a recession, or if so, how large that recession will be. "That will depend on how rapidly we reduce inflation," the speaker said.
The Fed's policymakers predict that economic growth will be lackluster for the foreseeable future and that unemployment will increase. By the end of 2023, they project that the unemployment rate will have increased from its present 3.7% level to 4.4%. According to experts, historically, a recession has usually come after an increase in unemployment of half a point over several months.
Fed officials had predicted 1.7% growth just three months prior, but now expect the economy to rise by 0.2% this year instead. They also predict sluggish growth of less than 2% from 2023 to 2025.
The Fed still predicts core inflation, which excludes the volatile food and gas categories, to be 3.1% at the end of next year, considerably above its 2% target, despite the sharp rate increases it anticipates.
In a speech last month, Powell admitted that the Fed's actions may "bring some pain" to individuals and businesses. The resolve of the central bank to reducing inflation back down to its 2% objective, he continued, was "unconditional."
By dramatically increasing the cost of mortgages, auto loans, and business loans, short-term rates at the level the Fed is now expecting would increase the likelihood of a recession occurring next year. The average fixed mortgage rate reached 6% last week, its highest level in 14 years, which contributes to the decline in home sales. According to Bankrate.com, credit card borrowing charges are at their highest point since 1996.
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