The Federal Reserve’s Interest Rate Hike
Since the formation of the Federal Reserve during the Wilson Administration in 1913, the Central Bank has acted as a stabilizing force on the U.S. economy. Using its powers to execute changes to national monetary policy, the Federal Reserve has acted to normalize the economy during periods of both recession and high inflation (Curry and O’Connell). When all is well, it is the Fed’s role to facilitate conditions of low inflation and unemployment.
However, as a result of the coronavirus pandemic and the Russia-Ukraine War, the consumer price index has skyrocketed, a clear sign of increasing inflation across the U.S. (now at a 40 year high) (Smialek et. al.). Consumers are seeing sharp increases in the prices of their everyday goods, including food, clothing, and energy prices. In reaction to the increased price level, Americans are becoming disgruntled and want to see a swift change in the inflationary gap throughout the country.
On March 16, the Federal Reserve announced an increase in interest rates by 0.25%, which is the first rate change since 2018. The Fed also plans to raise interest rates at its remaining meetings this year, which will lead to interest rates being almost 2% by the turn of 2023 (Cox). Rate changes are an example of the Fed exercising its power to increase the federal funds rate, which is the interest rate that commercial banks must pay each other for overnight loans. Stemming from this interest rate hike, the cost of borrowing money is becoming more expensive, making consumers less willing to borrow from banks. In the long run, these changes aim to decrease aggregate demand, gross domestic product, and eventually inflation. At the same time, the Fed does not want to risk suppressing economic growth to the point of causing a recession (Smialek et. al.). Interest rate increases can also have negative effects on unemployment because as aggregate demand decreases, the unemployment rate will likely increase (La Monica). There is a large amount of uncertainty in articulating the effects of the interest rate increase on each sector in the economy.
The complete effects of the interest rate hike remain to be seen. Additionally, the possibility of further contractionary policy beyond the stated interest rate schedule cannot be ruled out. It will be interesting to see if the Fed’s actions alone will change the state of the United States economy, or if the status of continued supply chain disruption and the duration of the Russia-Ukraine War will continue to hinder domestic economic policy.
Works Cited
Cox, J. (2022, March 16). Federal Reserve approves first interest rate hike in more than three years, sees six more ahead. CNBC. https://www.cnbc.com/2022/03/16/federal-reserve-meeting.html
La Monica, P. (2022, April 1). Get ready for even bigger rate hikes from the Fed. CNN. https://www.cnn.com/2022/04/01/economy/federal-reserve-rate-hikes-inflation-jobs-report/index.html#:~:text=Traders%20are%20pricing%20in%20a,next%20meeting%20on%20May%204
O’Connell, B. (2022, March 16). What Happens When The Fed Raises Interest Rates? Forbes. https://www.forbes.com/advisor/investing/fed-raises-interest-rates/#:~:text=What%20Happens%20When%20the%20Fed%20Raises%20Rates%3F,spending%20more%20on%20interest%20payments
Smialek, J., Russell, K., Swanson, A., & Rappeport, A. (2022, March 16). Fed Lifts Rates. https://www.nytimes.com/live/2022/03/16/business/fed-meeting-interest-rates
