United States Federal Reserve officials reaffirmed Wednesday their intention to trim their key interest rate thrice in 2024, despite a persistently high inflation rate at the year’s outset. Nevertheless, they anticipate fewer rate adjustments in 2025, and have slightly revised their inflation projections upwards.
Following the conclusion of their latest meeting, officials maintained their benchmark interest rate at its current level for the fifth consecutive time.
In their updated quarterly projections, Fed officials anticipate continued robust growth alongside persistent inflationary pressures throughout 2024 and into the following year. Consequently, they envision a slightly prolonged period of slightly higher interest rates.
The latest forecasts suggest three rate cuts are slated for 2025, down from the four anticipated in December. Additionally, they project “core” inflation to reach 2.6 per cent by the end of 2024, up from the previous projection of 2.4 per cent. January’s core inflation stood at 2.8 per cent, as per the Fed’s preferred measure.
Overall, these forecasts indicate policymakers’ expectations for the U.S. economy to sustain its unique balance: a robust job market and economic growth alongside a gradual moderation in inflation, albeit slower than previously predicted.
Most economists anticipate the Fed’s June meeting as the likely occasion for its inaugural rate cut, marking a reversal from the 11 increases implemented over the past two years. While these hikes have helped curb annual inflation from its June 2022 peak of 9.1 per cent to 3.2 per cent, they have also substantially increased borrowing costs for both businesses and households.
Rate cuts, over time, are expected to reduce costs associated with home and auto loans, credit card borrowing, and business loans. They could also provide a boost to President Joe Biden’s re-election prospects by stimulating the economy through lower borrowing rates amid public discontent over rising prices.
Persistent Inflation Challenges Recent government reports have indicated higher-than-anticipated inflation levels. One report revealed a significant jump in consumer prices from January to February, surpassing the Fed’s target range. Another report highlighted unexpectedly high wholesale inflation, potentially signaling sustained inflationary pressures that could keep consumer prices elevated.
Federal Reserve Chair Jerome Powell and the rest of the interest-rate-setting committee are deliberating on whether these figures should alter their timeline for rate cuts. The central question remains whether rates have been kept sufficiently high for a long enough duration to effectively tame inflation.
Despite a decline in consumer inflation since mid-2022, it has remained above three per cent, with service sector costs like rents, hotels, and medical care remaining elevated in the first two months of 2024. This suggests that high borrowing rates have not been effective in sufficiently curbing inflation in the expansive service sector of the economy.
While Fed rate hikes typically impact borrowing costs for durable goods like homes and vehicles more significantly, their influence on services spending, which typically does not involve loans, is limited. With the economy still displaying strength, there is no urgent impetus for the Fed to slash rates until inflation is demonstrably under control.
However, the central bank faces the risk of waiting too long to implement rate cuts, which could lead to an extended period of high borrowing costs that may significantly weaken the economy and potentially trigger a recession.
Powell has cautioned against such an outcome during his recent testimony to the Senate Banking Committee, expressing increasing confidence in the ongoing moderation of inflation, albeit not in a linear fashion.
Despite these inflationary challenges, the U.S. economy largely remains in good health, characterized by ongoing job creation, low unemployment rates, and record-high stock market performance. Nonetheless, consumer prices remain substantially higher than pre-pandemic levels, contributing to public dissatisfaction, which some Republicans seek to attribute to President Biden.
Signs of potential economic softening are emerging, such as decelerating retail spending in January and February, a slight increase in the unemployment rate to 3.9 per cent (though still considered healthy), and a predominantly government-driven job growth with limited gains in other sectors.
Similar to the U.S., other major central banks are maintaining higher rates to manage consumer price surges. In Europe, there is mounting pressure to reduce borrowing costs amid declining inflation and stagnant economic growth. The European Central Bank hinted at a possible rate cut in June, while the Bank of England is not expected to signal any imminent rate adjustments during its upcoming meeting.
Conversely, Japan’s central bank recently raised its benchmark rate for the first time in 17 years, responding to rising wages and inflation nearing its two per cent target. This move marks a departure from the negative interest rate policy that prevailed in Japan and certain European countries.