The Federal Reserve is raising its benchmark interest rate a quarter of a percentage point, officials with the central bank said on Wednesday, its eighth consecutive hike as policy makers try to subdue inflation.
The latest increase in the federal funds rate — what banks charge each other for short-term loans — is smaller than the Fed’s 0.5 percentage point increase in December as well as a string of three-quarter point moves over the course of 2022.
With the latest increase, the Fed’s target interest rate is set in a range between 4.50% and 4.75% — its highest level since late 2007.
The Fed said its campaign to curb prices is working, while indicating it plans to keep rates high for some time.
“Over the past year we have taken forceful actions to tighten the stance of monetary policy,” Fed Chair Jerome Powell said in a press conference Wednesday.”Even so, we have more work to do. Price stability is the responsibility of the Federal Reserve and serves as the bedrock of our economy,” he said.
“We expect ongoing hikes will be appropriate,” Powell added.
The move to ease the pace of monetary tightening, which economists and investors had widely expected, comes amid signs the U.S. economy is cooling off and concerns about a possible recession later this year.
The Fed has been rapidly hiking rates since March of 2022 in a bid to snuff out persistent inflation. High interest rates slow the economy by making it more expensive for consumers and businesses to borrow money. However, policy makers worry that raising rates too high could tip the economy into a recession.
Although Powell has underlined his commitment to curbing inflation, the battle may be entering a different phase aimed at bringing the economy in for a gentle landing. The Fed alluded to the “extent” of any future rate hikes, in contrast to wording in its December statement about the “pace” of tightening.
The shift in language, while nuanced, suggests the Fed will now employ smaller rate hikes to tame inflation, according to analysts with Morgan Stanley.
Inflation across the U.S. has fallen from a yearly rate of 9.1% this summer — its highest level in four decades — to a more modest 6.5% in December. The Fed has signaled it wants inflation to fall closer to its 2% target before easing the pace of monetary tightening.
Job market “out of balance”
Despite cooling inflation and slowing economic growth, Powell said the job market remains too strong to bring prices and wages down to what the Fed considers healthy.
“The labor market remains extremely tight with the unemployment rate at a 50-year low, job agency very high and wage growth elevated,” he said, adding that “the labor market continues to be out of balance.”
The central bank fears that, if workers are able to change jobs too easily and command higher pay, it could lead corporations to further hike prices, entrenching inflation.
“Reducing inflation is likely to require a period of below-trend growth and softening of labor market conditions,” he added.
When will interest rates fall?
Investors broadly expect the Fed to stop rate hikes as the economy slows. Most analysts expect just one more rate increase, to a top range of 5%, and many think the Fed will actually cut rates this year as the economy enters a mild recession.
However, Powell poured water on those expectations. If the economy performs in line with the Fed’s expectations of “slower growth, some softening in labor market conditions and inflation moving down steadily, but not quickly… it will not be appropriate to cut rates this year,” he said.
Powell conceded that, with goods prices falling, “the disinflationary process has started,” a comment that caused stocks to surge. Still, he cautioned against pausing rate hikes too early. Goods, where prices are falling, make up less than half of overall inflation, and the Fed wants hard evidence of lower prices in housing and other services sectors before winding up the rate-raising cycle.
“In this situation, where we still have the highest inflation in 40 years, the job is not fully done,” Powell said. “It would be very premature to declare victory or think we really got this.”