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Federal Reserve Raises Interest Rates to Combat Inflation
The Federal Reserve has raised interest rates by half a percentage point to combat rising inflation. This move is part of the Fed’s efforts to control inflation, which has been increasing due to various factors such as supply chain disruptions, COVID-19 lockdowns in China, and Russia’s invasion of Ukraine.
Inflation Rates
The personal consumption expenditures price index, the Fed’s preferred measure of inflation, rose 6.6% in the year through March, exceeding the central bank’s target. This has led to concerns that the Fed may have waited too long to raise interest rates, potentially causing a recession.
Interest Rate Expectations
Investors had been betting on an even bigger rate increase when the FOMC next meets in June. However, officials have downplayed this idea and expressed a desire to bring the federal funds rate to around 2.5% by the end of the year, which they deem "neutral" for the US economy.
Balance Sheet Reduction
The Fed will begin shrinking its $8.9 trillion balance sheet starting June 1 at a pace of $30 billion in Treasuries and $17.5 billion in mortgage-backed securities per month. This is expected to slow down over time as reserve balances reach a level deemed consistent with ample reserves.
Market Impact
The move has already pushed up borrowing costs, which may constrain demand in rate-sensitive industries such as the housing market. The yield on the benchmark 10-year Treasury note rose to 3% this week for the first time since 2018.
Fed’s Response
Powell and his colleagues have sought to connect high inflation to strength in the US labor market. The unemployment rate was 3.6% in March, just above its pre-pandemic level. The Labor Department will publish figures for April on Friday.
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