Fed keeps interest rates unchanged in inflation battle, but possible increase later due to rising oil prices.

Fed keeps interest rates unchanged in inflation battle, but possible increase later due to rising oil prices.

The Fed’s Delicate Balancing Act: Taming Inflation without Triggering Recession

In a move to calibrate its interest rate policies and ensure a “soft landing” for the US economy, the Federal Reserve (Fed) has signaled its intention to keep its benchmark rate at approximately 5.4%. This decision reflects the Fed’s belief that the 11 rate hikes implemented since March 2022 have effectively cooled rising prices. Despite consumer inflation dropping from a peak of 9.1% in June 2022 to 3.7% last month, it remains well above the Fed’s target of 2%. As a result, the Fed is hesitant to declare victory over the most significant inflationary period in four decades[^1^].

In addition to leaving rates unchanged, the Fed’s projections indicate their intention to keep rates high until well into 2024. They expect only two interest rate cuts in 2024, down from the four previously predicted in June. This cautious approach suggests that the Fed remains concerned about the pace at which inflation is descending towards the 2% target. By raising the costs of consumer and business loans, the Fed aims to guide the US economy toward a “soft landing,” wherein inflation cools without precipitating a severe recession[^1^].

Astonishingly, despite the rate hikes, the job market and the overall economy have proven resilient, defying expectations of widespread layoffs and economic contraction. While inflation has slowed significantly, the economy has continued to expand steadily, driven by steady job growth and rising wages. This unexpected outcome has prompted the Fed to adopt a more measured approach to raising rates, recognizing the growing risks of pushing rates too high. Previously, the focus had been primarily on the risks of not doing enough to curb inflation[^1^].

The Fed’s current strategy reflects its determination to maintain rates, or at least keep them near their highs, for an extended period. The impact of these higher interest rates has been felt throughout the economy, restraining borrowing for various purposes such as housing, cars, home renovations, and business investment. This, in turn, is expected to help moderate spending, curb inflation, and moderate the pace of economic growth[^1^].

While progress has been made in curbing overall inflation, certain sectors, such as auto insurance, car repairs, veterinary services, and hair salons, are still experiencing climbing costs. However, recent data indicates that inflation is moving in the desired direction. Excluding volatile food and energy prices, inflation in June and July marked its two lowest monthly readings in nearly two years[^1^].

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To further alleviate inflationary pressures, signs have emerged that the job market is not as robust as it was, which acts as a check on inflation. The pace of hiring has slowed, and the number of unfilled job openings has declined sharply in June and July. Additionally, more Americans are actively seeking employment, helping to balance labor demand and supply, thereby reducing pressure on employers to raise wages, which can lead to higher prices[^1^].

Nevertheless, threats to reignite inflation or weaken the economy persist. Rising oil prices, for instance, are steadily increasing the cost of gasoline, potentially leaving consumers with less disposable income. Furthermore, even the limited strike by the United Auto Workers union against major US automakers could potentially drive up vehicle prices, exacerbating inflation[^1^].

The Fed’s decision to maintain rates coincides with other central banks worldwide, mostly raising rates to combat inflation. Global supply chain disruptions caused by the pandemic have resulted in shortages and higher prices, further exacerbating inflationary pressures. As such, the European Central Bank recently raised its benchmark rate to a record-high 4%, while the Bank of England is also expected to increase its rate[^1^].

In conclusion, the Federal Reserve’s decision to leave rates steady at 5.4% reflects its cautious approach to taming inflation and maintaining a delicate balance in the US economy. Signaling an inclination to keep rates high for a prolonged period, the Fed aims to guide the economy towards a “soft landing.” While progress has been made in curbing inflation, certain sectors continue to experience climbing costs. Moreover, various factors, such as rising oil prices and labor strikes, threaten to reignite inflation or weaken the economy. As central banks globally raise rates in response to inflationary pressures, the Fed’s decision aligns with this trend[^1^].