Markets rise on Fed hint about pace of future rate rises

The Federal Reserve on Wednesday raised its benchmark policy rate by 0.75 percentage points for the fourth time in a row but hinted that it could slow the pace of future increases as recent aggressive hikes work their way through the economy.

In comments that sent US stocks rising and bond yields down, the central bank highlighted that it would “take into account the cumulative tightening” implemented so far as well as the “lags with which monetary policy affects economic activity and inflation”.

The Federal Open Market Committee also said it would also take “economic and financial developments” into account.

Investors interpreted the statement as a dovish signal that the Fed was prepared to ease off in its battle to tackle soaring prices, albeit temporarily.

US stock indices rose immediately following the announcement with both the S&P 500 and the Nasdaq Composite reaching session highs. Both the benchmark 10-year Treasury yield and the two-year Treasury yield, which moves with interest rate expectation, dropped.

The statement came after the FOMC voted unanimously to increase the federal funds rate to a new target range of 3.75 per cent to 4 per cent following its latest two-day meeting.

The US central bank said that “ongoing increases” in the fed funds rate would be necessary to have a “sufficiently restrictive” impact on the economy and bring inflation back to the Fed’s longstanding 2 per cent target.

The Fed’s decision to press ahead with another 0.75 percentage point rate rise comes against a backdrop of mounting evidence that the most acute inflation problem in decades is not abating. This is despite signs that consumer demand is starting to cool and the housing market has slowed significantly under the weight of spiraling mortgage rates, which last week rose above 7 per cent.

Data released since September have shown consumer price growth accelerating once again across a broad array of goods and services, suggesting underlying inflationary pressures are becoming more entrenched. The labor market also remains very tight, with strong wage growth and resurgent job openings.

Wednesday’s decision shifted the federal funds rate further into “restrictive” territory, meaning it will more forcefully stifle economic activity.

Given how far the Fed has already lifted rates — from near-zero as recently as March — top officials and economists are having increasingly urgent discussions about when the US central bank should slow the pace of its rate rises, particularly since changes to monetary policy take time to filter through the economy.

The Fed first introduced the notion of slowing down “at some point” back in July, and forecasts published at the September meeting suggest support for such a move in December. At September’s meeting, most officials projected the fed funds rate reaching 4.4 per cent by the end of the year, indicating a step down to a half-point rate rise next month.

Economists are concerned that by prolonging its aggressive tightening programme, the Fed risks triggering a more pronounced economic downturn than is necessary, as well as instability in financial markets. Some Fed watchers warn that recent flashpoints in the UK government bond market, which required the Bank of England to step in, offer a cautionary tale.

Democratic lawmakers have also called on the Fed to back off of its aggressive approach.

However Fed chair Jay Powell will be under pressure to reassure economists and investors that slowing the pace of rate rises does not mean a reduced commitment to stamping out price pressures. To that end, many economists expect the Fed to eventually back rate rises that exceed the 4.6 per cent peak level planned in September. A benchmark policy rate of at least 5 per cent is now expected to be required to tame inflation.