The US Federal Reserve is raising interest rates for the first time since 2018 in an attempt to bring fast-rising prices under control.
The Marriner S. Eccles Federal Reserve Board in Washington, DC. Photo: AFP
The US central bank said it was lifting its benchmark rate by 0.25 percentage points and signalled plans for further rate rises in the months head.
The moves come as the economy faces new uncertainty caused by the Ukraine war and coronavirus outbreaks in China.
They are expected to have widespread global repercussions.
By raising rates, the Fed will make it more expensive for households, businesses and governments to borrow.
It is hoping that will cool demand for goods and services, helping to ease price inflation in the US, which hit a new 40-year high of 7.9 percent last month.
"The plan is to restore price stability while also maintaining a strong labour market," Federal Reserve Chairman Jerome Powell said. "That is our intention and we believe we can do that but we have to restore price stability."
"We're not going to let high inflation become entrenched," he said. "The costs of that would be too high."
The bank is trying to pull off a "high-wire act" says Diane Swonk, chief economist at accounting firm Grant Thornton.
Move too slowly and inflation could become entrenched, eroding living standards over time. Move too fast and the Fed risks knocking growth in the US and abroad.
"They want to dampen down the pressures of inflation without derailing the global economy," she says.
Fed policy shift
The plans represent a seismic shift in policy from the bank overseeing the world's largest economy. The Fed moved cautiously to raise interest rates after the financial crisis of 2008 and slashed them again when the coronavirus pandemic hit.
The rate increase announced on Wednesday was expected and will push the target range for the bank's key rates to 0.25 percent to 0.5 percent.
Projections released after the Fed's meeting show officials also expect the interest rate to rise to almost 2 percent by the end of the year - a full percentage point higher than they predicted in December.
In addition to rate rises, the Fed will also be winding down other stimulus, including massive purchases of Treasury securities and other assets that it started to stabilize markets at the beginning of the coronavirus crisis.
And while the bank has certainly raised rates before, it has not faced this kind of inflation in decades.
"It's no longer just raising rates to accommodate stronger growth," Swonk says. "Actually chasing inflation as opposed to pre-empting inflation is a very different concept."
US growth
Fed Chairman Jerome Powell said the US economy was well positioned to handle the increases, dismissing fears that it might tip into recession.
"The probability of a recession in the next year or so is not particularly elevated," he said at a press conference following the Fed meeting. "All signs are that this is a strong economy, one that will be able to flourish, not to say withstand, but certainly flourish as well in the face of less accommodative monetary policy."
Bank officials expected the US economy to grow 2.8 percent this year, and inflation to subside to around 4.3 percent by the end of the year.
That was still well above the bank's 2 percent target, raising fears the Fed is moving too cautiously.
In the UK - where inflation hit 5.5 percent in January - the Bank of England had already raised rates twice and was expected to do so again on Thursday.
Officials in many other countries, including South Africa, Brazil and South Korea, have also acted.
Emerging market risk
Professor of economics at the University of California Berkeley, Maurice Obstfeld, said by holding off the Fed created a situation with more uncertainty about how far it would have to raise rates and how quickly to get inflation under control.
That was a problem - and not just in the US, he said.
"If you're in the UK or a wealthy continental European country, it's not a terribly big deal," he said.
"But if you're in a small emerging market where there have been inflationary prices - which is sort of everywhere outside of Asia - then I think you do have to worry about the repercussions, because you are entering a situation of greater fragility on international capital markets and you're on the front line of that."
When the US raises interest rates, investors often redirect money from riskier economies, deflating the value of local currencies.
That also puts pressure on governments - especially those with large amounts of debt in dollars - at a time when budgets were already under strain from the Covid crisis.
Russia's invasion of Ukraine - which has disrupted global oil and food markets - has made the situation even more delicate.
Professor Obstfeld, who is also a fellow at the Peterson Institute for International Economics, said it was not the Fed's job to focus on spill-over effects.
"The ultimate factor that is destabilising or potentially destabilising for global markets is out-of-control US inflation," he said.
Companies had attributed the price increases to higher costs from supply shortages, logistics disruptions and wage increases as they competed for workers in a competitive job market.
Despite the gains, US demand has remained strong, boosted in part by increased government assistance to households during the pandemic.
But the rising cost of basics like food and petrol has still put pressure on President Joe Biden, as inflation outpaces wage gains.
Sheilla Thompson, a manager at a social services organisation in Brooklyn, said she had put off going to the doctor, worried about how the extra bill would fit in amid rapidly rising costs of groceries and other essentials.
"I have to cut back," the 45-year-old said. "All kinds of stuff has gone up."
"The way all these prices are shooting up, can't the government put a stop to it?" she added.
- BBC
