When the Federal Reserve made the announcement of a pause in its aggressive 15-month campaign of interest rate increases on Wednesday, it came with a surprising twist. As expected, the US central bank kept its benchmark rate steady after 10 consecutive increases. However, it also indicated that there will likely be two more rate increases this year, instead of just one as previously anticipated. This contradictory decision prompted Fed chair Jay Powell to defend the central bank’s approach, but some economists remained unconvinced.
Powell explained during a press conference that it made sense to moderate rate hikes as the US got closer to its economic goals. Moving more cautiously would give the Fed more time to assess economic data and the impact of previous rate increases. However, Vincent Reinhart, a former Fed employee, criticized the decision as a policy mistake and communication error.
According to the latest projections, most officials anticipate the federal funds rate to peak at a new target range of 5.5-5.75%, half a percentage point higher than previous forecasts. Some economists sensed a growing division among Fed policymakers. Those calling for a cautious approach were concerned about the cumulative effect of rate tightening potentially causing unnecessary harm to the resilient economy. Meanwhile, the hawkish camp pointed out the lack of progress in controlling “core” inflation, which excludes volatile food and energy costs.
Tiffany Wilding, chief US economist at Pimco, suggested that the decision to pause resulted from a compromise among the policymakers. The current compromise suggests that the Fed may raise rates again at its upcoming meeting in July. Powell hinted at this possibility, referring to the meeting as a “live one”. He emphasized the importance of economic data and evolving risks in the decision-making process. Overall, economists remain uncertain about the Fed’s future actions, with some expecting another rate increase in July while others are skeptical.
It is important for the Fed to strike a balance between tightening policy and avoiding excessive tightening. Monetary policy works with lags, and there is a risk of realizing later on that the central bank has done too much. Therefore, the end point of the tightening campaign should not be a moving target that keeps getting pushed further out.
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