In a widely expected move, the Federal Reserve raised interest rates by three-quarters of a point on Wednesday, as it tries to strangle inflation by tamping down economic demand.
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The central bank also sharply downgraded its economic forecast, with its median expectation of growth in gross domestic product now at 0.2% for the year, down from 1.7% in June. Unemployment will reach 3.8% this year, up from 3.7% earlier, and 4.4% for each of the next two years. The Fed also raised inflation expectations to 5.4% this year from 5.2% in June, while also lifting its inflation forecast for 2023 to 2.8% from 2.6% and for 2024 to 2.3% from 2.2%.
The Fed’s forecast also sees it raising rates to a peak of 4.6% in 2023, up from 3.8% in its June summary of economic conditions.
Fed Chairman Jerome Powell spoke after the announcement and while noting a slowdown in economic activity, particularly in housing and business investment, he said the labor remained “out of balance” with demand for workers outstripping supply.
“We are taking forceful and rapid steps to moderate demand,” Powell said. “We will keep at the job until we are done.”
Powell suggested the idea of a “soft landing” where inflation comes back down to the preferred goal of a 2% average is “diminishing” the longer the Fed keeps tightening, but he added that no one knows if or when a recession will occur, or how severe it might be.
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He said the Fed would rely on the incoming data, and at some point, it would need to assess its policy and where “appropriate” to slow the rate of interest rate hikes.
“We are committed to getting to a restrictive level” and “getting there pretty quickly,” he said in answer to a question about upcoming meetings and rate decisions. Inflation “is not where we want it to be,” he added.
“The Fed was late to recognize inflation, late to start raising interest rates, and late to start unwinding bond purchases,” said Greg McBride, chief financial analyst at Bankrate. “They’ve been playing catch-up ever since. And they’re not done yet.”
The 75 basis point hike follows a similar increase in July that has put the brakes on the housing market amid an overall slowdown in the economy.
The increase will put further pressure on both consumers and businesses, as borrowing costs rise and the prospect of a recession increases in the next several months’ increases.
“Today’s rate increase will have a quick impact on consumers, particularly for shorter-term borrowing costs,” said George Ratiu, Realtor.com manager of economic research. “The funds rate serves as a basis for the prime rate, which is used by banks to set interest rates for credit cards, as well as automobile and personal loans.”
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“Consumers will see higher rates in the next few weeks,” Ratiu added. “This is expected to have a spillover effect later this year, as we move into the traditional holiday retail season. With higher borrowing costs and incomes that are not keeping up with inflation, consumers may find shrinking shopping budgets, leading to a shorter gift list.”
Ratiu said the rate hikes will affect more than just consumers and that businesses are already facing inflation and rising wages for their workers.
“In addition, with an increasingly likely economic slowdown on the horizon, many companies are moving to contain or cut back on expenses,” he said. “While layoffs have been limited to certain sectors to date, we may see a growing wave of companies cutting payrolls during this winter.”
Markets sold off on the news, with the Dow Jones Industrial quickly falling more than 200 points. However, the Dow reversed itself as Powell spoke, rising 280 points before settling closer to a 200-point gain in volatile trading.