Fed Signals Future Rate Hikes as Inflation Accelerates

 Andrew Soergel
  14th-Jun-2018

THE FEDERAL OPEN MARKET Committee on Wednesday raised its benchmark interest rate for the second time this year as central bankers attempt to keep pace with bubbling inflationary pressures.

A tonal shift in what are typically formulaic post-meeting FOMC statements, however, points to the possibility that the Federal Reserve assumes a more active policy role in the months ahead – a development that comes as some experts fear that tariffs and trade intervention from President Donald Trump's administration will further accelerate domestic pricing pressures.

"This is the biggest change in Fed messaging for quite a long time," Brian Coulton, a chief economist and managing director at Fitch Ratings, said in response to an FOMC statement published after the group's two-day policy meeting concluded Wednesday afternoon.

Coulton points specifically to newly released projections that suggest a majority of FOMC officials expect they'll be able to justify raising interest rates twice more before year's end, bringing the number of rate hikes launched in 2018 to four. Not since 2006 has the Fed raised its benchmark interest more than three times during a single calendar year.

Coulton also notes the removal of language typically included in post-meeting FOMC statements calling for "gradual" adjustments to monetary policy. Specifically, the latest statement axed a line indicating that "the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run."

That's widely being interpreted as a sign that the Fed is preparing to take off the gloves in its fight against accelerating inflation.

"The hike will surprise no one, but tweaks to the Fed's forward guidance have provoked more of a stir in markets," James McCann, a senior global economist at Aberdeen Standard Investments, said in a statement Wednesday afternoon, though he cautions that it "remains to be seen" whether additional interest rate hikes will "be enough to keep a lid on inflation."

Throughout much of what is now the second-longest economic recovery on record, inflationary pressures have been few and far between, allowing America's central bank to keep interest rates low to help stimulate economic growth.

But recent pricing indicators have come in hot, with the Bureau of Labor Statistics' consumer price index ticking up 0.2 percent last month, ending May up 2.8 percent on the year. That's the biggest year-over-year increase the economy has seen since early 2012, with the core of the index that excludes volatile food and energy prices up 2.2 percent from May 2017.

Most immediately alarming about these price increases is that they're keeping pace with – and in some cases eclipsing – Americans' wage gains. A separate report from the BLS on Tuesday showed inflation-adjusted average hourly earnings unchanged between May 2017 and May 2018. Such earnings for production and nonsupervisory employees, in particular, actually fell 0.1 percent.

"U.S. unemployment is now at 3.8 percent, but wage growth is still tepid and inflation is still tame," Tara Sinclair, an economics professor at George Washington University and a senior fellow of the Indeed Hiring Lab, said in a statement Tuesday. "Employers have long known that low interest rates couldn't last forever and the Fed has been very clear that the end of extraordinarily low rates is nigh."

There's been some talk that prices could accelerate further as the Trump administration's tariffs and international counter-tariffs begin to take effect. Steel and aluminum prices, in particular, are expected to pick up, and washing machine prices have also gone through the roof in the aftermath of tariffs imposed earlier this year.

During a post-meeting press conference, Federal Reserve Chairman Jerome Powell batted away a question about the economic impact of America's ongoing trade tension, noting that "Congress has specifically given authority over trade to the executive branch, so I wouldn't comment on any specific trade actions."

He acknowledged, however, that "you're beginning to hear reports of companies holding off on making investments and hiring people" and noted that some Fed officials' business contacts have expressed "concerns about changes in trade policy."

He pointed to the content of a recent Beige Book report, which includes anecdotal commentary from each of the Fed's 12 regional banking districts. That report highlighted "some concern about the uncertainty of international trade policy," though it went on to say that "outlooks for near-term growth were generally upbeat."

"Global trade tensions have risen significantly this year, but at this stage the scale of tariffs imposed remains too small to materially affect the global growth outlook," Coulton said. "A major escalation that entailed blanket across-the-board geographical tariffs on all trade flows between several major countries would be much more damaging."

Indeed, tariffs have yet to derail any kind of economic expansion, as the Federal Reserve Bank of Atlanta projects U.S. economic growth will hit 4.6 percent during the second quarter. And with a tight labor market in which the unemployment rate continues to decline, economists widely expect workers' earnings to pick up sooner or later.

But the Fed appeared to signal Wednesday that it believes it will have a fight on its hands going forward as inflation picks up and monetary policy climbs closer to pre-recessionary norms. And many economists are skeptical that tariffs and trade turmoil will help that cause.

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