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Fed signals rate hike ‘soon’, citing high inflation and strong labor market

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Fed signals rate hike ‘soon’, citing high inflation and strong labor market

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The Federal Reserve said on Wednesday it would be “soon” appropriate to raise interest rates, as inflation tops policymakers’ preferred target and the labor market strengthens.

Although central bankers left rates unchanged at near zero – where they have been set since March 2020 – the revised statement after their two-day policy meeting laid the groundwork for higher borrowing costs as early as the next meeting. from the Fed in March.

“I would say the committee is in agreement with raising the federal funds rate at the March meeting, assuming the conditions are appropriate to do so,” Fed Chairman Jerome H. Powell said during a briefing. a press conference after the meeting. .

“The economy no longer needs high and sustained levels” of monetary policy support, he said earlier in his remarks.

The Fed is already winding down a bond-buying program it was using to support the economy, and officials have left that program on track to end in March. Central bankers have signaled they may start cutting their holdings of government-backed debt soon after they start raising interest rates, a move that would further remove support from markets and the economy.

The Fed’s policy committee released a statement of principles for this process on Wednesday, setting out plans to “significantly” reduce its holdings “predictably” and “primarily” by adjusting the amount it reinvests as assets expire. Investors are watching the Fed’s next steps nervously, fearing that its policy changes will hurt prices for stocks and other assets and rapidly slow the economy. At the same time, consumer prices are rising at the fastest rate since 1982, eroding household paychecks and posing a political liability for President Biden and the Democrats. It’s the Fed’s job to keep inflation under control and help foster full employment.

Mr Powell said it was difficult to guess what pace of rate increase would be appropriate, that it was important to be “humble and nimble” and that “we are going to be guided by the incoming data and the evolution prospects”.

“We realize this is a very different expansion,” Powell said later at the press conference, with “higher inflation, higher growth, a much stronger economy – and I think those differences will probably be reflected in the policy that we implement.

The withdrawal of policy support from the Fed could cool consumer and business demand as borrowing money to buy a car, boat, house or business becomes more expensive. Slower demand could give strained supply chains a chance to catch up. By slowing hiring, the Fed’s actions could also limit wage growth, which otherwise could feed through to prices.

The Fed has moved away from providing full support as the economy rebounds strongly from its pandemic shock, and the fresh signal of an impending rate hike is the latest step in that process.

“They reinforce market expectations of a takeoff in March,” said Priya Misra, head of global rates strategy at TD Securities. Ms Misra said she took the Fed’s release of how it would approach reducing its balance sheet as a sign that the central bank could begin this next step by reducing support very soon, perhaps after the bank power plant has raised rates once or twice.

“They’re trying, I think, to reduce market uncertainty around the balance sheet – but they’re telling us it’s happening,” she said.

Mr Powell noted that the two areas the Fed is responsible for – fostering price stability and maximizing jobs – push the central bank to “smoothly move away” from high levels of accommodation. He said most committee members believed the labor market was compatible with maximum employment, defined as the level of employment possible without price pressures.

“There are several million more job vacancies than there are unemployed,” Mr Powell said. “I think there is enough room to raise interest rates without threatening the labor market.”

The unemployment rate fell to 3.9%, down from its peak of 14.7% at the economic worst point of the pandemic and close to its February 2020 level of 3.5%. Wages are rising at the fastest rate in decades, although they are struggling to keep up with rapid price increases.

Inflation rose sharply in 2021 and is expected to remain uncomfortably high through 2022. The Fed’s preferred inflation gauge is expected to show prices rising 5.8% in the year to December when the last report is released on Friday, more than double. the 2% pace that the Fed is aiming for annually and on average.

Mr Powell said the problems of rising inflation had been “bigger and longer lasting” than officials had anticipated and noted the Fed was “risk-sensitive” that rapid wage growth could further fuel price increases.

Prices are high in part because global supply chains struggle to produce and transport enough sofas, cars and clothes to keep pace with growing demand for goods. The pandemic had changed consumption habits, and households have money in their pockets thanks to the long months spent at home and government relief.

By making it more expensive to buy a lawnmower on credit or a car with a car loan, the Fed’s rate hikes could help calm the US spending spree.

If the virus subsides, it would also help things get back to normal by allowing factories to operate at full speed without gradual shutdowns and allowing consumers to spend their money on trips to the nail salon or the Alps rather than on new kitchen tables and garage renovations.

But Fed officials — and many economists — have spent much of 2021 hoping conditions would return to normal and inflation would go away on its own. This does not happen.

“Since the December meeting, I would say the inflation picture is about the same but probably slightly worse,” Powell said when asked about the Fed’s previous expectations.

Central bankers continued to believe that the recovery in prices will wane significantly by the end of this year, but they have also guided policy to a position from which it can combat any sustained inflationary pressure.

Policymakers predicted at their last meeting in December that they would raise interest rates three times this year. They did not release a new set of economic projections with this policy statement. The next quarterly estimates will arrive in March.

Fed signals rate hike ‘soon’, citing high inflation and strong labor market

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