Federal Reserve Chairman Jerome Powell testifies during a hearing before the Senate Banking Committee on November 30 in Washington, D.C. The Fed announced a new game plan on Wednesday aimed at tackling hot inflation. Red.
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Federal Reserve Chairman Jerome Powell testifies during a hearing before the Senate Banking Committee on November 30 in Washington, D.C. The Fed announced a new game plan on Wednesday aimed at tackling hot inflation. Red.
Alex Wong / Getty Images
The Federal Reserve is paving the way for possible rate hikes next year, in an effort to curb high inflation.
At the end of a two-day policy meeting on Wednesday, the central bank announced plans to phase out its large-scale bond-buying program more quickly than originally planned. The Fed began buying bonds during the pandemic as a way to keep borrowing costs across the economy low and prevent any market disruptions.
Ending bond purchases earlier would give the Fed more flexibility to raise interest rates sooner, if needed, to keep prices from skyrocketing out of control. The central bank has said in the past it wanted to stop buying bonds before considering a rate hike.
The Fed is taking a tougher line to combat inflation after consumer prices rose 6.8% in November from a year ago – biggest increase in nearly four decades.
In a statement, the Fed acknowledged the rapid rise in prices. While the central bank still believes that inflation is largely driven by pandemic-related factors, which should ease as the health outlook improves, policymakers no longer consider that to be the case. is what is intended.
Notably, the notable omission in Wednesday’s statement was the word “temporary,” which the Fed has used in the past to describe inflationary pressures.
Fed Chairman Jerome Powell told lawmakers earlier this month: “I would say most forecasters expect inflation to drop meaningfully in the second half of next year. “The problem is, we can’t act like we’re sure of it. We’re not sure of it.”
There are economic costs that lead to higher interest rates
The Fed has kept interest rates close to zero throughout the pandemic in an attempt to boost the economy. Twelve of the 18 members of the Fed’s rate-setting committee now say they expect rates to rise by 3/4% or more by 2022. That underscores the evolution of the Fed’s thinking. Three months ago, no one on the committee envisioned rates going up this much next year.
Five other committee members expect the rate to rise by half a percentage point next year – up from three who said so in September.
The Fed has surprised many times this year with both the strength and viability of inflationary forces. While average wages are rising at a rapid rate, prices are climbing even faster.
“It feels horrible for everyone,” said Megan Greene, a senior fellow at Harvard’s Kennedy School of Government. “Even though wages are rising, inflation is outpacing wage growth. So that’s ingrained in people’s living standards.”
High gas prices are displayed at a gas station in Los Angeles on Nov. 24. Consumer prices rose 6.8% in November from a year earlier, the fastest pace in nearly four decades.
Chris Delmas / AFP via Getty Images
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High gas prices are displayed at a gas station in Los Angeles on Nov. 24. Consumer prices rose 6.8% in November from a year earlier, the fastest pace in nearly four decades.
Chris Delmas / AFP via Getty Images
While some big inflation drivers such as gasoline and used car prices show signs of cooling down in the coming months, other prices are likely to remain high.
Committee members now say they expect inflation to come in at 2.6% by the end of next year, up from the 2.2% predicted in September. (The Fed’s preferred measure of Inflation is an index of personal consumption expenditure, which was 5% in October.)
Raising interest rates is the Fed’s traditional tool to keep inflation in check, but it comes with its own price tag.
Higher borrowing costs often lead to slower economic growth, and the Fed was reluctant to raise rates until it deemed the US “maximum employment”.
There are risks to the Fed’s strategy
However, there is still considerable uncertainty about what that will look like in a post-pandemic economy.
The unemployment rate has plummeted – from nearly 15% last April to 4.2% last month. But there are still about 4 million fewer people working than before the coronavirus hit. And nearly 2.4 million people who left the workforce during the pandemic have yet to return.
For example, if those former workers have effectively quit, through retirement, then the Fed’s “maximum employment” goal is close to being achieved.
But if many people continue to rush to find work – as nearly 600,000 did last month – it means the labor market remains significantly sluggish and interest rate hikes could hamper the recovery. return.
That is the challenge facing Fed policymakers.
“This is another kind of recession that we haven’t experienced,” said Greene, chief economist at the Kroll Institute. “So the jury is still out on what will happen to the workforce.”
Powell suggested that if inflation is left unchecked, it could in itself jeopardize a full employment recovery.
“We’re going to need a long-term expansion,” Powell told members of a Senate committee. “For that, we’re going to need price stability. And in a sense, the risk of prolonged high inflation is also a big risk to return to the labor market like that. ”
