More US rate rises ahead after 75bps hike

US spending and output indicators have softened, but more action is needed to bring down red-hot inflation, says Fed Reserve chair Jerome Powell, who believes the economy is not in a recession.

Federal Reserve Board Chairman Jerome Powell doesn’t believe US is in a recession and wants to continue to raise hikes to stem inflation. Picture: Mandel Ngan.

The US Federal Reserve continued a sprint to reverse its easy-money policies by approving another unusually large interest rate increase and signalling more rises were likely coming to combat inflation that is running at a 40-year high.

Officials agreed on Wednesday (US time) to a 0.75 percentage point rate rise, which will lift their benchmark federal-funds rate to a range between 2.25 per cent and 2.5 per cent.

The rate increase won unanimous backing from the 12-member rate-setting committee.

In a policy statement after the conclusion of their two-day meeting, officials acknowledged signs of slower economic activity since they met last month.

“Recent indicators of spending and production have softened. Nonetheless, job gains have been robust in recent months,” the statement said.

The statement repeated language from previous meetings that said officials anticipate additional rate increases will be appropriate.

“The labour market is extremely tight and inflation is much too high,” Fed chairman Jerome Powell said at a news conference.

Mr Powell said: “2.7 million people hired in the first half of the year, it doesn’t make sense that the economy would be in recession.”

He also said he hasn’t seen the second-quarter gross domestic product report set for release Thursday morning but cautioned the report will likely not be the last word on second-quarter growth.

“Generally the GDP numbers do have a tendency to be revised pretty significantly,” he said. “You tend to take first GDP reports with a grain of salt.”

Fed officials are raising rates at the most aggressive pace since the 1980s and have approved increases at four consecutive policy meetings, starting in March when they lifted rates from near zero.

Until last month, the central bank hadn’t raised rates by 0.75 point since 1994.

With Wednesday’s action, the central bank has raised rates since March as much as it did between 2015 and 2018 and returned the fed-funds rate to a level last seen three years ago, before a slowing economy led the Fed to cut rates slightly.

Officials slashed them to zero in March 2020, when the Covid-19 pandemic raced around the world.

US inflation has accelerated since March 2021.

Demand surged after the economy’s reopening and aggressive government stimulus, and Russia’s invasion of Ukraine has further aggravated supply-chain disruptions and driven energy and commodity prices up this year.

Officials at their June meeting agreed they likely needed to raise rates to at least 3 per cent this year and to levels high enough to slow economic growth, which could send the unemployment rate up.

How consumers and businesses respond to tighter money will help resolve one of the biggest questions facing the Fed and financial markets: how high officials will ultimately raise rates.

Another hot inflation reading earlier this month with the consumer-price index rising 9.1 per cent in June from a year before has prompted investors to speculate that the Fed might increase the fed-funds rate by a full percentage point at this week’s meeting.

The Fed targets 2 per cent inflation on average and uses a separate gauge, the personal-consumption expenditures price index.

Investors in interest-rate futures markets are also betting that after raising the rate to around 3.5 per cent at the end of this year, the Fed will reverse course next year by lowering it.

Mr Powell hasn’t publicly discussed such a possibility, and instead has said the central bank needs to see convincing evidence that monthly inflation figures are declining before dialling back rate increases to more traditional quarter-point increments.

Inflation diminished last summer “and then turned right around and went back up,” Mr Powell said at a press conference last month.

“So I think we’re going to be careful about declaring victory.”

Since the Fed raised rates by 0.75-point last month, several other central banks have accelerated their own rate increases.

Investors have responded in ways that reflect growing worries about a recession. Oil and commodity prices have tumbled.

So have market-based measures of future inflation and bond yields.

The fed-funds rate, an overnight rate on loans between banks, influences borrowing costs throughout the economy, including rates on mortgages, credit cards and business loans.

Rate increases slow the economy and cool inflation by reducing asset prices and raising borrowing costs, which damps investment, hiring and spending.

The housing market, as one of the most interest-rate sensitive corners of the economy, has been the epicentre of the Fed’s effort to stimulate growth last year and to slow it this year. Prices have surged amid strong demand, but sales are slumping now as rates rise sharply.

Employers have been adding jobs at a brisk pace this year, and the unemployment rate has held at 3.6 per cent, a historically very low level, between March and June.

The Labor Department is set to report Friday on a widely watched measure of wage growth that could be especially important to the Fed because it is trying to reduce households’ purchasing power to slow inflation.

Consumer spending, the main driver of the economy, surged throughout much of the recovery from the 2020 pandemic-driven recession, but has shown signs of cooling.

Walmart said Monday it was cutting prices to reduce merchandise levels at its flagship chain and Sam’s Club warehouse chain and warned higher prices for food and gas were causing consumers to pull back on other spending.

On the other hand, Coca-Cola reported strong quarterly sales and raised its revenue outlook. “We continue to see resilience and a lot of demand,” said John Murphy, the beverage maker’s finance chief.

In recent years, low inflation has given the Fed more flexibility to quickly cut rates in reaction to growth slowdowns, but officials do not have that luxury right now because inflation is high. They are worried about consumers and businesses anticipating inflation to stay high. Economists and central bankers believe those expectations can play a fundamental role in shaping actual inflation.

At a central banking forum in late June, Mr Powell said he was more concerned about the risk of failing to stamp out high inflation than about the possibility of raising rates too high and pushing the economy into a recession.

“Is there a risk we would go too far? Certainly there’s a risk,” Mr Powell said.

“The bigger mistake – let’s put it that way – would be to fail to restore price stability.”

– The Wall Street Journal