Fed President Powell said it was “absolutely necessary” to bring inflation down. This is “much too high” and harms citizens and companies. “We’ll act quickly to bring them back down,” Powell promised. Future rate hikes of half a percentage point are also “on the table”. However, an increase of 0.75 percentage points is not being considered.
The Fed warned on Wednesday that Russia’s war of aggression against Ukraine is adding to price pressures and affecting “economic activity.” In addition, new lockdowns in China in the fight against the corona pandemic would probably lead to further problems in international supply chains.
Experts are expecting a series of further strong increases in the coming months. An interest rate level of at least 2.75 percent is firmly expected on the futures markets by the end of the year.
The fight against inflation is flanked by a reduction in the Fed’s balance sheet, which had inflated to around nine trillion dollars during the Corona crisis. This maneuver is to start in June, as the central bank has now decided. Initially, the portfolio is to shrink by up to $47.5 billion per month, and from September the rate of reduction is to be increased to up to $95 billion.
Investors reacted with relief to the Fed’s decision. “A positive sign is that today’s interest rate decision was made unanimously,” said portfolio manager Thomas Altmann from investment advisor QC Partners. “It was to be expected in advance that individual Fed members would vote for an even larger 75 basis point step.” However, this only gave Wall Street momentary momentum. The leading indices Dow Jones, Nasdaq and S&P 500 were not able to maintain their interim gains and after a few minutes were back at the level just before the interest rate hikes were announced. Conversely, the dollar index, which tracks rates against major currencies, rallied back towards its recent 19-1/2 year high after a slump.
The Fed is reacting to the inflation that is getting out of control with the largest interest rate hike in 22 years. The inflation rate recently reached 8.5 percent, its highest level in over 40 years. This reduces the purchasing power of consumers, which can set off a dangerous wage-price spiral. The Fed is therefore under pressure to counteract inflation by raising the price of money. According to Powell, the central bank wants to “quickly” move to a neutral interest rate level that will neither stimulate nor slow down the economy. Surprisingly, the economy had a slump at the beginning of the year and shrank by an annualized 1.4 percent in the first quarter.
“The Fed is slamming on the brakes to contain high inflationary pressures. Further interest rate hikes are on the way, which will slow down the economy with the usual delay,” predicts economist Bastian Hepperle from the private bank Hauck Aufhäuser Lampe.
The US Federal Reserve is facing the balancing act this year of catching the record inflation with a more restrictive monetary policy without running the risk of stalling the economy too much, says KfW chief economist Fritzi Köhler-Geib. Such a “soft landing” is an extremely delicate undertaking, which the Fed has only fully succeeded in once in the past 60 years. According to US Treasury Secretary and predecessor of Powell, Janet Yellen, the Fed needs luck as well as skill.