US Federal Reserve plans to raise interest rates “soon” due to high inflation

The US economy and job market are booming. However, the high rate of inflation is worrying the US Federal Reserve. The central bank is now quickly preparing to tighten the reins on monetary policy.

In view of the high inflation rate and the good situation on the labor market, the US Federal Reserve (Fed) has signaled an imminent increase in the key interest rate. This step will “soon be appropriate,” the central bank said on Wednesday. This paves the way for the first interest rate hike since the start of the corona pandemic. Initially, the interest rate will remain in the extremely low range of 0.0 to 0.25 percent.

Many analysts are already expecting an increase of 0.25 percentage points at the next meeting of the Central Bank Council on March 16. Fed Chairman Jerome Powell confirmed to journalists that the Fed is considering raising interest rates as early as “at the March meeting” – provided economic conditions continue to support it. According to a December Fed forecast, up to three interest rate hikes are expected in the world’s largest economy by the end of the year. The markets are now even expecting four tightenings by a total of one percentage point.

The situation on the labor market has improved significantly and growth is robust, which is why the US economy “no longer needs sustained high levels of monetary policy support,” Powell said. The development of the pandemic continues to cause great uncertainty, he admitted. But the recent omicron surge appears to be fading quickly, so the economic fallout should be limited, Powell said.

However, sustained strong economic growth and full employment presuppose stable prices, Powell said. The inflation rate has been well above the Fed’s medium-term target of 2 percent for months. Inflation rose to 7 percent year-on-year in December. That was the highest value in decades.

“Price increases have spread to a wider range of goods and services,” Powell said. Wages have also risen sharply recently. With a view to the inflation rate, the situation has “deteriorated a little recently,” he admitted. However, the Fed continues to assume that the inflation rate will fall significantly over the course of the year, said Powell.

Among other things, experts blame the rapid economic recovery from the Corona crisis, generous economic stimulus programs and disruptions in global supply chains for the rise in prices. Higher inflation weakens the purchasing power of consumers because they can buy less with a dollar than before. Increases in the key interest rate by the Fed would curb the rate of inflation, but also slow down economic growth, which could subsequently lead to more unemployment.

Powell wants to push inflation down to 2 percent

The Fed is committed to the goals of price stability and full employment. The unemployment rate fell to 3.9 percent in December, and many companies are already complaining about a lack of applicants. Before the Corona crisis, the unemployment rate was 3.5 percent, the lowest level in decades. “Our goal is to get inflation back down to 2 percent and also provide enough support to keep the job market healthy,” Powell said.

The Fed had already initiated a U-turn last year – away from the aid programs against the Corona crisis and towards a tighter monetary policy. The throttling of the central bank’s billion-euro securities purchases to support financial markets and the economy is to be continued as recently announced in order to end the program at the beginning of March, as the Fed announced.

In the course of the year, the Fed’s balance sheet, which has been swollen as a result of crisis programs, is also to be rapidly reduced, which would further drain liquidity from the markets. Powell said the “significant reduction” should be done “in an orderly and predictable manner” so as not to surprise market participants. Purchases of Treasuries and mortgage securities have increased the Fed’s balance sheet to nearly $9 trillion. Before the 2008 financial crisis, the balance sheet total was a tenth of that.

Although many people in surveys express dissatisfaction with economic development, the US economy has been booming so far: on Thursday the government will announce the first estimate of gross domestic product (GDP) growth in 2021. Treasury Secretary Janet Yellen expects rapid growth of around 5.3 percent, while the Fed most recently expected growth of 5.5 percent.