A year ago, the Federal Reserve worried that the surprisingly resilient U.S. economy could make inflation even more stubborn. Now, that may be giving officials hope that they can lower inflation without causing a recession.
This comes as Federal Open Market Committee (FOMC) officials gather for their next interest rate meeting in September, when they are likely to hold off on raising interest rates.
Since launching its toughest anti-inflation campaign in 40 years, the Fed has watched inflation fall by more than half and the temperature of the job market fall from overheating to comfortable. Officials are far from done fighting inflation, but the fact that the U.S. economy continues to thrive during the war means the economic damage could be minimized. It shows.
This is a strong showing for Fed Chairman Jerome Powell, who had just led the U.S. central bank to its biggest rate hike in history as inflation rose to a staggering 40-year high of 9.1%. This is a change from how dire the economic situation was. Thanks to that, it’s been 28 years. Fed officials, haunted by the harsh lessons of the 1970s and 1980s, Result of victory declaration He went so far as to suggest that he was willing to tolerate a recession if necessary to stabilize prices.
Policymakers have another reason to breathe. The Fed’s main benchmark interest rate is the most restrictive of the economy in more than a decade simply because interest rates far exceed the rate of inflation. This inflation-adjusted method of evaluating borrowing costs, often referred to as the “real” interest rate level, has been the most important measure in determining how much the Fed will raise interest rates, including at its last two meetings this year. There is a possibility that it will happen. in November and December.
Here’s what to expect after the Fed’s September meeting and why it matters for your money.
Real costs could rise even if the Fed doesn’t raise interest rates. At the point when the real cost of money becomes positive, the damage to the economy begins to increase.
— Greg McBride, CFA | Bankrate Chief Financial Analyst
1. The Fed is unlikely to raise rates at this time, but is preparing for a tougher economic outlook and possible rate hikes.
The Fed is not out of the woods yet. The surprisingly resilient U.S. economy could come back to life at any time, making jobs even harder.
Overall inflation rose 3.7% year-on-year, the paper said, while so-called “core” inflation, which excludes food and energy, rose 4.3%. Department of Labor Consumer Price Index (CPI). That’s a marked improvement from last summer’s peak, but still well above the Fed’s official target of 2%.
Given the large amount of data, the Fed could remain on guard against raising rates further this year if necessary. The inflation rate rose 0.6% from July to August, the highest level in 15 months, due to rising prices of major consumer necessities such as gasoline and car insurance rentals. Core inflation rose 0.3% from the previous month, the first increase since February. The Fed believes this measure of inflation is a better indicator of underlying price trends.
Month-on-month inflation trends will be an important way to judge whether the slump in prices is reversing.
On the other hand, the Fed’s desired inflation rate for July is personal consumption expenditure (PCE) The index — rose to 3.3% in the past 12 months from 3% in June.
“The Fed has no intention of shaking off the idea of another rate hike before the end of the year,” McBride said. “If recent increases in gasoline and other energy costs continue, they could spill over into the prices of a wider range of goods and services.”
This month, Fed watchers will get an update on officials’ forecasts for the job market, economic growth and inflation over the next three years, and how worried they are about it.
Experts say policymakers could lower their forecasts for inflation and unemployment while raising gross domestic product, the broadest measure of U.S. economic output. The key thing to watch is whether officials still expect one more rate hike at their November or December meeting. Policymakers also continue to stress that interest rates will remain high for an extended period of time, potentially excluding some from next year’s cuts.
“Time will tell whether we will raise rates again, but what is clear is that we need to keep them high,” McBride said. “There is no need to cut interest rates.”
2. The economy has troubling problems, even though a recession is unlikely.
Experts are quick to point out that some crises are turning into bubbles, and the U.S. economy may not feel as resilient to all households and businesses.
While the Fed’s benchmark is at a 22-year high of 5.25% to 5.5%, a person’s borrowing rate depends on their income and credit history. Due to rising interest rates, financial companies typically Tighten lending regulations.
For example, small businesses pay interest rates of 10.9 to 15.5 percent, and more than a third seek cash from shadow banks and other non-traditional and less regulated sources. Investigation by accounting firm RSM is shown.
Joe Brusuelas, RSM’s chief economist, said that depending on the quality of their balance sheets, some companies may be subject to a They say they are paying additional basis points. They borrow to expand their businesses and meet payroll needs, and tighter access to credit could weigh on jobs and the economy, he added.
“We’re at the point where we have to create the conditions for the Fed to reverse course from raising rates,” Brusuelas said. He envisions the pivot as a “two-part move,” starting with a pause of at least six months, followed by a “pivot” to lower rates. “Otherwise, real interest rates will just keep going up and up. And frankly, we don’t need to go into a recession.”
Similar stressors are weighing on households, particularly borrowers with subprime credit scores. Loan denial rates reached their highest level in five years, with the biggest increase among people with credit scores below 680, the financial institution said. New York Fed Quarterly Credit Access Survey. Fewer borrowers are getting approved for all types of credit, not just auto loans, but credit cards, line increases, mortgages and refinance applications. The survey also revealed that car loan rejection rates have reached record highs.
There is a possibility that more households will find themselves in financial difficulties. Rising interest rates are not deterring many households from borrowing either, as they often have to borrow more to cover increased spending. In the second quarter of 2023, total household debt exceeded $17 trillion, and credit card balances reached a record high of $1.03 trillion. New York Fed data is also shown.
Low-income households are particularly hard-pressed by rising inflation because they have less disposable income to cut back on. But for high-income Americans, inflation is “just a minor inconvenience,” Brusuelas said.
Borrowers’ pain could show up in broader economic data going forward, as high-income households account for about 60% of all spending, while the middle class and working poor account for about 40%, according to Brueras’ analysis.
“While a soft landing is likely, we cannot raise mortgage rates to 7% without causing a modest adjustment across the economy, in which case some people will have to pay much higher prices than others.” “We’re going to have to pay a lot of money,” Brusuelas said. “Inflation is almost over. We’re in the last mile now. This is a policy decision about where they want to land and how far they’re willing to go to achieve that goal.”
3. The Fed may be fighting an inflation war that it will never fully resolve.
While the Fed is focused on bringing inflation down to 2%, ADP Chief Economist Nella Richardson is already thinking about the next mile and the potential difficulties of keeping inflation there. ing.
She points to major supply shortages such as labor and housing supply. They were brewing long before the pandemic, but they have been exacerbated by the pandemic. Since the Great Recession of 2007-2009, new home construction has slowed and the non-working age population has declined. growing at a faster pace than the working-age population For more than a decade, according to Census Bureau data.
“The biggest fallacy in our current story about interest rates and inflation is that this is a one-and-done story.” [task] instead of seasons. We’re only watching his one game,” Richardson said. “There are a lot of things that kept inflation in check during the 10-year expansion. We never hit the brakes because the economy never accelerated. We’ll continue to rely on these things to keep inflation in check for the next 10 years. This may not be possible and interest rates may remain high for an extended period of time.
As inflation soars in the aftermath of the pandemic, the Fed finds itself caught between a predicament and a hardship. We can’t produce more oil, build more housing, or increase the workforce, but we also can’t do those jobs effectively when the U.S. economy overheats.
“Some people are using this to advocate for higher inflation targets,” McBride said. “Personally, I don’t think we’ll move the goalposts just because the game isn’t going our way.” If reducing inflation means making the economy even a little better, then that’s logical. I think that’s a good conclusion.”
Mr. Powell emphasized that the Fed is doing the following: Not interested in raising the inflation targetAnd experts have warned of the impact it will have on the economy.
2% has long been considered the “Goldilocks” inflation rate. It’s neither too hot nor too cold, the economy continues to grow, and consumers can continue to spend. Businesses can expect steady increases in input costs, and workers’ salaries can keep up. Even if inflation remains high, not all households will benefit from a strengthened labor market, and many workers have mixed upward mobility and low starting salaries.
But in this new era, where supply problems continue and inflation could heat up even more, the Fed’s new thinking on inflation may need to change, RSM’s Brusuelas said.
“It’s much harder to increase unemployment given the long-term supply shock,” said Brusuelas, who believes the Fed’s inflation target is closer to 3%. “That means you’re actually going to have to cause more pain than necessary.”
conclusion
Households are exposed to a number of risks as the Fed decides how much and for how long to slow the U.S. economy. What we can say for now is that borrowing costs are not going to get any cheaper, and access to credit may become even tighter as the financial system slows further. McBride emphasizes the importance of repaying large debts with variable interest rates to avoid becoming financially vulnerable to rising interest rates.
But there are also benefits to higher “real” interest rates. That means the cash you keep on the sidelines won’t lose as much purchasing power through inflation. No matter how much you can afford to stash away, finding an account that rewards your money will help you grow that critical cash faster to use to cover emergencies, unexpected expenses, or future goals. It may be possible.
“Even when it’s over [raising rates], they won’t say it’s over,” McBride says. “It’s in the Fed’s best interest to remain silent for a while. Interest rates are high and will stay high, and we’re going to have to contend with this environment for some time.”
