The Fed is signaling that it will take more aggressive measures to fight inflation

WASHINGTON – Federal Reserve officials say they will take an aggressive approach to combating high inflation in the coming months – actions that will make lending much more expensive for consumers and businesses and increase risks to the economy.

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Federal Reserve Chairman Jerome Powell opened the door two weeks ago to raise interest rates by half a point in the coming sessions, instead of the traditional quarter point. Tom Williams / Pool via Associated Press

Minutes after their policy meeting three weeks ago on Wednesday, Fed officials said raising interest rates by half a unit, instead of the traditional quarterly increase, “could be appropriate” several times this year.

At last month’s meeting, many Fed policymakers voted in favor of a half-point increase, the minutes said, but were later postponed due to uncertainty over Russia’s invasion of Ukraine. Instead, the Fed raised its key short-term interest rate by a quarter and indicated it plans to continue raising interest rates next year.

Minutes also show that the Fed is also close to rapidly shrinking its huge $ 9 trillion bond stock in the coming months, a move that will contribute to higher borrowing costs. Policymakers said they would likely cut their stakes by about $ 95 billion a month – almost double the rate they set five years ago when they last shrunk their balance sheets.

The plan to quickly pull out their bonds marks the latest move by Fed officials to step up their efforts to fight inflation. Prices are rising at the fastest pace in four decades, and officials in recent speeches have expressed growing concern about controlling inflation.

Many economists said they were concerned that the Fed had waited too long to start raising interest rates and could be forced to react so aggressively as to cause a recession. Indeed, Deutsche Bank economists predict that the economy will fall into recession at the end of next year, noting that the Fed, “finding itself far behind the curve, has given clear signals that it is moving into a more aggressive tightening situation.”

The stock market sold out when the minutes were released on Wednesday, but later recovered most of its losses. However, the S&P 500 fell almost 0.8% in afternoon trading after falling sharply on Tuesday.

Financial markets are now expecting much sharper interest rate hikes this year than Fed officials only signaled at their recent meeting in mid-March. Just three weeks ago, policymakers predicted that the Fed’s reference rate would remain below 2% until the end of this year and at 2.8% at the end of 2023, from its current level below 0 , 5%.

However, Wall Street now predicts that the Fed will raise its interest rate to 2.6% by the end of the year, with further interest rate hikes next year. That would require three half-point increases this year.

Higher interest rates from the Fed will increase the cost of borrowing on mortgages, car loans, credit cards and corporate loans. In doing so, the Fed hopes to slow economic growth and raise wages enough to curb high inflation, which has plagued millions of households and posed a serious political threat to President Biden.

President Jerome Powell opened the door two weeks ago to raising interest rates by up to half a point in the coming meetings, instead of a traditional quarter point. The Fed has not raised interest rates by half a point since 2000. Lael Brainard, a key member of the Fed’s Board of Governors, and other officials have also made it clear that such sharp increases are envisaged. Most economists now expect the Fed to raise interest rates by half a point in May and June.

Speaking on Tuesday, Brainard underlined the Fed’s growing aggression, saying that central bank bonds would “shrink significantly faster” in a “much shorter period” than the last time the Fed cut its balance sheet, from 2017- 2019. At that time, the balance sheet was about $ 4.5 trillion. Now, it’s double.

After the pandemic hit the economy two years ago, the Fed bought trillions in government bonds and mortgages to cut long-term lending rates. It also reduced the short-term reference rate to almost zero.

As a sign of how quickly the Fed is reversing its course, the last time the Fed bought bonds, there was a three-year gap between when it stopped buying in 2014 and when it started cutting its balance sheet in 2017. Now, this change is likely to occur in just three months.

Brainard’s remarks led to a sharp rise in the interest rate on the 10-year government bond, a key interest rate that affects mortgage rates, business loans and other borrowing costs. On Wednesday, the rate reached 2.6%, from 2.3% just a week earlier, a sharp increase for this percentage. A month ago, it was just 1.7 percent.

Yields on short-term bonds have skyrocketed, in some cases above 10-year yields, a pattern previously seen as a sign of impending recession. Fed officials, however, say short-term bond market trends are not flashing the same warning signs.

The Fed will cut its balance sheet by allowing some of its bonds and mortgage-backed securities to mature without reinvesting revenue, as it has for the past two years.

What effect this will have on interest rates is extremely uncertain. Powell told a news conference after last month’s meeting that a reduction in available bonds would be tantamount to another rate hike. Economists estimate that reducing the Fed’s balance sheet by $ 1 trillion a year would be tantamount to anywhere from one to three additional quarterly increases in the Fed’s short-term benchmark interest rate.

Finance Minister Janet Yellen, who preceded Powell as Fed chairman, suggested during a congressional hearing Wednesday that Russia’s invasion of Ukraine was likely to continue to escalate in the coming months.

“The sanctions we have imposed on Russia are raising the price of energy,” Yellen said. “When energy prices go up, the price of wheat and corn produced by Russia and Ukraine goes up and the metals that play an important industrial role go up.”

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