By Yasin Ebrahim
Investing.com — The Federal Reserve raised interest rates by 0.5% on Wednesday, laying the carpet for a slower pace of future rate hikes, but signaled that rates will need to move higher than previously expected as inflation continues to rise well above target. goal remains.
The Federal Open Market Committee, the FOMC, raised it to a range of 4.25% to 4.5%, from 3.75% to 4% previously.
The move marked a slowdown from the 0.75% rate hikes seen at the previous four meetings. This steep pace of interest rate hikes, the fastest since the 1980s, is starting to put a dent in inflation.
“The Fed is taking the gas off the accelerator to some extent because it is medicine [tighter monetary policy] works,” Eric Diton, president and managing director at The Wealth Alliance, told Investing.com’s Yasin Ebrahim in a recent interview. “Many areas of high inflation are cooling, including the owner-equivalent index [what it would cost to rent your own house]one of the largest components of CPI,” Diton added.
While the recent evidence pointing to declining inflation is encouraging, the Fed believes further hikes, albeit at a slower pace, are needed to ensure that price pressures eventually ease to the 2% target.
The Fed now sees its benchmark rate rise to a peak, or closing rate, of 5.1% in 2023, above its forecast of 4.6% in September, suggesting at least two rate hikes of 25 basis points ahead.
That’s slightly higher than market expectations for a peak at the high end of around 5%.
The central bank also indicated it will likely keep interest rates high for longer until 2023, disappointing market participants and calling for a cut in the second half of next year. The Fed forecasts a cut to 4.1% in 2024, above the previously estimated 3.9%.
Last month, Fed Chairman Jerome Powell cited strong price pressures in the non-housing services sector of the economy, supported by wage growth, as a major driver of inflation and reiterated that there is still work to be done.
“Because wages are the largest expense in providing these services, the labor market holds the key to understanding inflation in this category,” Powell said in a November speech at the Brookings Institution event in Washington.
The core personal consumer spending index, the Fed’s preferred measure of inflation, is expected to rise to 3.5% in 2023, up from a previous forecast of 3.1%. For 2024, inflation is estimated to slow to 2.5%, compared to the previous forecast of 2.3%. Fed members kept their 2025 inflation forecasts unchanged at 2.1%.
The Fed believes that its longer-term higher interest rate regime will slow down labor market demand more than previously forecast, keeping wage growth contained. According to the Fed’s projections, the unemployment rate is expected to reach 4.6% in 2023 and remain unchanged the following year. That is above the previous September forecast of 4.4%.
Recognizing the impact of tighter monetary policy, Fed members cut their growth forecast for 2023 by more than half to 0.5% from 1.2% previously. Growth in 2024 and 2025 is expected to be 1.6%, down from a previous forecast of 1.7%.
As the Fed prepares a slower path of rate hikes ahead, investors remain wary of the risk of the central bank tightening too much. .
“Signs of inflation slowing allow the Fed to take a breather and let their incredibly strong policies grow through the economy,” Diton said ahead of the decision. “I think they’ve done enough… they don’t have to do anything but wait and see.”