The Federal Reserve announced a quarter-point rate hike on Wednesday, expressing caution over the recent banking crisis and indicating that rate hikes are nearing completion.
Along with its ninth hike since March 2022, the rate-setting Federal Open Market Committee noted that future hikes are not guaranteed and will depend largely on incoming data.
“The committee will closely monitor incoming information and assess the implications for monetary policy,” the FOMC statement said after the meeting. “The Committee understands that additional policy tightening may be warranted to achieve monetary policy sufficiently restrictive to bring inflation back down to 2 percent over time.”
This wording deviates from previous statements that “ongoing increases” would be appropriate to bring down inflation. Shares rose slightly after the announcement, but the market faltered during a news conference with Fed Chair Jerome Powell.
Investors seemed concerned by Powell’s comments that the inflation battle still has a long way to go and could become “bumpy”.
The softer tone in the central bank’s prepared statement came amid a banking crisis that has raised concerns about the stability of the system. The statement pointed to the likely impact of recent events.
“The US banking system is sound and resilient,” the committee said. “Recent developments are likely to result in tighter credit conditions for households and businesses, weighing on economic activity, hiring and inflation. The extent of this impact is uncertain. The Committee remains very vigilant on inflation risks.”
During his remarks, Powell indicated that events in the banking system were likely to result in tighter credit conditions.
The committee unanimously approved the rate hike. The hike brings the key rate to a target range of between 4.75% and 5%. The interest rate sets what banks charge each other for overnight loans, but affects a variety of consumer debt, such as mortgages, car loans, and credit cards.
The forecasts released alongside the interest rate decision point to a peak interest rate of 5.1%, unchanged from the last estimate in December and suggesting that a majority of officials expect only one more rate hike.
Data released along with the statement shows that seven of the 18 Fed officials who provided estimates for the “dot plot” see interest rates exceeding the “final rate” of 5.1%.
The projections for the next two years also showed considerable disagreement among members, reflected in a wide spread among the ‘points’. Still, the median estimates point to a 0.8 percentage point cut in interest rates in 2024 and a 1.2 percentage point cut in 2025.
The statement erased all references to the impact of the Russian invasion of Ukraine.
Markets had been watching the decision closely, which came with a higher level of uncertainty than is typical of Fed actions.
Earlier this month, Powell hinted that the central bank may need to take a more aggressive tack to tame inflation. But a fast-moving banking crisis thwarted any notion of a tighter move – and contributed to broad market sentiment that the Fed will cut rates before the year is out.
Estimates released Wednesday of where members of the Federal Open Market Committee see interest rates, inflation, unemployment and gross domestic product underscored the uncertainty surrounding the policy path.
Officials also tweaked their economic forecasts. They have slightly raised their inflation expectations with inflation set at 3.3% this year, compared to 3.1% in December. Unemployment fell by one notch to 4.5%, while the GDP outlook fell to 0.4%.
Estimates for the next two years were little changed, except that the 2024 GDP forecast fell to 1.2% from 1.6% in December.
The forecasts come against a volatile backdrop.
Despite the banking turmoil and volatile monetary policy expectations, markets have held up. The Dow Jones Industrial Average is up about 2% over the past week, even as the 10-year Treasury yield is up about 20 basis points, or 0.2 percentage point, over the same period.
While data from late 2022 pointed to some deceleration in inflation, recent reports have been less encouraging.
The personal consumption price index, a favorite measure of inflation by the Fed, rose 0.6% in January, up 5.4% from a year earlier — 4.7% excluding food and energy. That’s well above the central bank’s 2% target, and the data prompted Powell to warn on March 7 that interest rates were likely to rise more than expected.
But banking troubles have complicated the calculus of decision-making as the Fed’s pace of tightening has contributed to liquidity concerns.
closures of Silicon Valley Bank and Signature Bank and equity offerings Swiss credit And First Republichave raised concerns about the state of the industry.
While large banks are considered to be well capitalized, rapidly rising interest rates mean that smaller institutions have faced liquidity constraints that have caused otherwise safe long-term investments to fall in value. Silicon Valley, for example, had to sell bonds at a loss, triggering a crisis of confidence.
The Fed and other regulators have stepped in with contingency measures that appear to have contained immediate funding concerns, but concerns remain about how deep the damage is at regional banks.
At the same time, recession worries linger as rate hikes find their way through economic wires.
An indicator created by the New York Fed using the spread between 3-month and 10-year Treasuries put the probability of a contraction in the next 12 months at about 55% as of the end of February. The inversion of the yield curve has increased since then.
However, the Atlanta Fed’s GDP tracker puts first-quarter growth at 3.2%. Consumers continued to spend – even though credit card use is increasing – and the unemployment rate was 3.6% while the wage bill grew buoyantly.