After enacting the most severe contractionary policy in a decade, the Federal Reserve decided to raise the target federal funds rate by 0.5 percentage points.
The Federal Open Market Committee has now raised rates four times this year, with today’s increase being the most recent (June, July, September, and November). The current interest rate objective is between 4.25% and 4.50%.
The Committee’s decision on the future pace of raising the target range will consider the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments, as stated by the Federal Reserve Board of Governors.
After a sizeable monetary stimulus was deployed during the lockdown-induced recession, government officials have spent over three years trying to undo their mistakes. Investors have been buying government bonds as the Federal Reserve has reduced its target interest rate to zero. The likelihood of a recession has grown due to the four straight rate hikes that have added up to three-quarters of a percentage point in higher borrowing costs for households and businesses.
Chairman of the Federal Reserve Board Jerome Powell reversed course this week, announcing that the Fed will “slow the pace of our rate rises” starting in December. Due to the gap between monetary policy adjustments and their impact on the economy and inflation, he stated, “the full repercussions of our quick tightening thus far have yet to be appreciated.” After effectively tightening monetary policy, the next step is determining how long interest rates may remain elevated before reviving inflationary pressures.
According to numbers issued by the BLS on December 2, the CPI rose 7.1% from November 2017 to November 2018. Forecasts indicated an 8.0% rise in this yield. Since January, growing food and housing prices have pushed the CPI up by 0.5% after having pushed it down by 0.6% in January.
To maintain low unemployment and stable prices, the Federal Reserve has been keeping a careful eye on the labor market. BLS data shows that despite above-average job creation in November, the unemployment rate remained at a historic low of 3.7%. In the most recent month, the unemployment rate was unchanged from the previous month, coming in at 3.7%.
But due to the significant layoffs induced by the lockdowns, the labor force participation rate has fallen. Despite a steady reentry of younger generations into the workforce, “excess retirements” beyond “what would have been predicted from population aging alone” remain the primary factor driving the “participation gap,” as noted by Powell.
The tight labor market, as explained by Powell, is to blame for nominal wage growth that has surpassed the 2% inflation target. The labor market is considered to have returned to equilibrium when supply and demand are roughly equal.
After the Federal Reserve raised mortgage interest rates to combat inflation, it sent shockwaves across the real estate industry. For the more significant part of two years, the 30-year fixed mortgage rate posted by government-sponsored mortgage lender Freddie Mac hovered around 3%. However, this rate spiked to 7% unexpectedly only last month. Despite evidence that home prices have bottomed out, buyers may find it challenging to save enough to cover a down payment and other associated expenditures due to rising interest rates.