Fed expected to hike interest rates Wednesday

The Federal Reserve is racing to get inflation under control and pull back stimulus for an overheated economy with a double dose of rate hikes expected on Wednesday. The Fed’s monetary policy panel is expected to announce a 0.5 percentage point rate hike Wednesday, twice the size of a typical interest rate increase, as the bank rushes to get in front of rising prices. 

The Fed held off on hiking rates from near-zero levels last year as inflation rose, expecting pandemic-related factors pushing up prices to fade along with COVID-19. But a combination of a torrid U.S. economy, persistent supply chain issues, the war in Ukraine and trillions of dollars in stimulus fueled a 6.6 percent increase in prices since last March, according to the Fed’s preferred gauge of inflation.

The Fed is now hiking interest rates far faster than in previous cycles, with the bank’s baseline interest rate range still low enough to stimulate the economy. After a March hike of 0.25 percentage points, the Fed’s baseline range is now set at 0.25 to 0.5 percent — roughly 1.5 percentage points below where Fed officials expect it to be at the end of year.

The bank is aiming to raise borrowing costs fast enough to take a bite out of inflation without slowing a strong U.S. economy into recession — a feat economists call a “soft landing.”

“On the surface, everything looks good at least on the employment front,” said Derek Tang, co-founder and economist at research firm Monetary Policy Analytics. 

The U.S. economy gained nearly 1.7 million jobs over the first three months of 2022 after adding a record-breaking 6.4 million jobs last year. Labor Department data released Friday showed a record 11.5 million job openings in March — almost two for every unemployed American — and a record 4.5 million Americans quit their jobs last month, likely to take a new position with better compensation or career opportunities. 

“Anyone who wants a job probably is able to get a job, though they might not be able to get the job they want exactly,” Tang said. 

“These things could change on a dime, though, and that’s what the Fed really needs to be careful about, especially in a situation where the global economy is very uncertain.”

Fed Chair Jerome Powell has expressed confidence the bank can curb inflation without causing businesses to lay off employees given the high number of open jobs. If Fed rate hikes reduce job openings without cutting actual employment, job seekers will have less leverage to request higher wages. Businesses may also have an easier time keeping up with demand as fewer employees quit, which could also reduce pressure on prices.

Even so, a growing number of economists fear the Fed won’t be able to achieve a soft landing given how high inflation has risen, how low its baseline interest rate range is, and how many global factors could get in the way. While most economists expect the U.S. to avoid a recession this year, many say the risks of one in 2023 or 2024 are considerably higher.

COVID-19-related lockdowns in China have deepened supply shortages, shipping delays, and port bottlenecks are adding new fuel to inflation, with the full effects not likely to reach the U.S. for months. Even if the Fed can reduce consumer demand for those goods, prices may still rise as suppliers struggle to navigate snarled supply chains.

“What you try to do when you slow growth is reduce demand and that drops prices. How much it can drop prices when you already have abnormal supply shortages has never been tested before,” said Karen Shaw Petrou, managing partner of Federal Financial Analytics.

“The Fed can maybe make some difference, but the more of a difference it makes in demand, the more painful the recessionary risk becomes. That’s why this is so hard.”

Petrou is among many Fed-watchers who feared the bank ignored clear signs last year that inflation would not be “transitory,” as Powell often said, but had spread into areas of the economy largely unaffected by supply chain issues. While most of the initial bust of inflation came from a national automobile and computer chip shortage, prices for food, shelter, health care and other services have risen far faster in recent months.

“I don’t understand what was wrong with their models and I think it’s because they got the answer they wanted, which is a terrible way to think about the economy,” Petrou said.

Powell and other Fed officials have admitted they waited too long to begin raising interest rates, citing deep uncertainty about whether the delta and omicron variants would set back the economic recovery. While Fed experts largely agree the bank is behind the curve, many economists were also caught off guard by the persistence of inflation and hardly blame the bank for being patient.

“You have to remember we’re coming out of a period of great uncertainty. The country got caught flatfooted several times” Tang said, referring to the delta and omicron surges of COVID-19.

“It’s understandable why the Fed was really, really cautious about the danger of raising rates too early.”


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