The Federal Reserve left its key interest rate unchanged for the second time in the past three meetings on Wednesday, a sign that it is moderating its fight against inflation as price pressures have eased. But Fed officials also indicated they expect to raise rates again this year.
The decision to leave the policy rate at around 5.4% suggests that the Fed believes it has time to wait and see whether the eleven rate hikes it has unleashed since March 2022 will continue to cool rising prices.
Consumer inflation has fallen from a year-on-year peak of 9.1% in June 2022 to 3.7% last month. Yet inflation is still well above the Fed’s 2% target, and its policymakers made clear Wednesday that they are not close to beating the worst inflation wave in four decades.
In addition to predicting another rate hike by the end of the year, their projections showed they plan to keep rates high well into 2024. They expect to cut rates only twice in 2024, compared to the four rate cuts they envisioned in June.
Policymakers’ tendency to keep interest rates high for an extended period suggests that they remain concerned that inflation will not fall towards the 2% target quickly enough.
The Fed’s rate hikes have significantly increased the cost of consumer and business borrowing. By refining its interest rate policy, the central bank is trying to guide the US economy to a difficult “soft landing” of cooling inflation without causing a deep recession.
Even as inflation has slowed significantly, the labor market and economy have remained resilient, clouding expectations that the Fed’s series of rate hikes would lead to widespread layoffs and a recession.
The more measured approach to rate hikes that the Fed is now taking reflects a realization among officials that the risks to the economy from raising rates too high are increasing. Previously, they had focused more on the risks of not doing enough to slow inflation.
The Fed’s moves underscore that even as policymakers approach a peak in their rate hike series, they plan to keep rates at or near their all-time highs for an extended period.
By generating sharply higher interest rates across the economy, the Fed has tried to slow lending for homes, cars, home renovations, business investment and the like to help ease spending, moderate the pace of growth and curb inflation.
While there has been marked progress on inflation, gas prices have moved higher again, reaching a national average of $3.88 per gallon on Tuesday. The oil price has risen by more than 12% in the past month.
And the economy is still growing at a robust pace, while Americans, buoyed by steady job growth and wage increases, have continued to spend. Both trends could keep inflation and Fed interest rates high for long enough to weaken household and business spending and the economy as a whole.
Although overall inflation has fallen, the cost of some services – from car insurance and car repairs to veterinary services and hair salons – is still rising faster than before the pandemic. Still, the latest data points in the direction the Fed wants to see: Inflation in June and July, excluding volatile food and energy prices, recorded the two lowest monthly rates in almost two years.
And there are increasing signs that the labor market is not as robust as before, which is helping to keep inflation in check. The pace of recruitment is moderate. The number of vacancies fell sharply in June and July. And the number of Americans looking for work has increased dramatically. This has better balanced the supply and demand of labor and eased pressure on employers to raise wages to attract and retain workers – a trend that could lead them to raise prices to meet higher labor costs. compensate.
In addition, millions of Americans will have to resume paying student loans next month when the pandemic-era pause ends. That shift toward loan repayments could weaken consumer spending, which powers most of the economy.
Still, the path back to lower inflation has become more uneven: On a monthly basis, consumer prices rose 0.6% in August, the highest level in more than a year. Compared to a year earlier, prices rose by 3.7%, the second consecutive increase.
And some factors threaten to reignite inflation, weaken the economy, or both. For example, rising oil prices make gasoline increasingly expensive. If this trend continues, it would worsen inflation and give consumers less money to spend. Even the United Auto Workers union’s so-far limited strike against the three major U.S. automakers could ultimately push up car prices further.
This week’s Fed meeting comes at a time when central banks around the world are raising interest rates primarily to combat inflation. Prices rose after the pandemic hampered global supply chains, causing shortages and higher prices. Inflation worsened after Russia’s invasion of Ukraine in February 2022 pushed up oil and other commodity prices.
The European Central Bank last week raised its benchmark interest rate for the tenth time to 4%, the highest level ever since the introduction of the euro in 1999, although it indicated that this could be the last rate hike. The Bank of England is also expected to raise interest rates at its meeting on Thursday. The Bank of Japan, which meets on Friday, is under less pressure to raise rates, although it has taken steps to push Japan’s long-term interest rates higher.