For the first time in 22 years, the Federal Reserve raised its benchmark short-term interest rate by half a percentage point in an effort to fight inflation, the central bank announced Wednesday.
"Inflation is much too high. And we understand the hardship it is causing, and we're moving expeditiously to bring it back down," Federal Reserve Chair Jerome Powell said, speaking directly to the American people. "We have both the tools we need and the resolve that it will take to restore price stability on behalf of American families and businesses."
"The economy and the country have been through a lot over the past two years and have proved resilient," he added. "It is essential that we bring inflation down if we are to have a sustained period of strong labor market conditions that benefit all."
The move to combat inflation – an issue harming American consumers and a political liability for President Joe Biden and the Democrats – comes after the Fed raised a key interest rate by a quarter of a percentage point in March, the first time the central bank has done so since 2018.
The Fed also announced that it will start reducing its huge $9 trillion balance sheet, which consists mainly of Treasury and mortgage bonds. Those holdings more than doubled after the pandemic recession hit as the Fed bought trillions in bonds to try to hold down long-term borrowing rates. Reducing the Fed’s holdings will have the effect of further raising loan costs throughout the economy.
All told, the Fed’s credit tightening will likely mean higher loan rates for many consumers and businesses over time, including for mortgages, credit cards and auto loans. With prices for food, energy and consumer goods accelerating, the Fed’s goal is to cool spending — and economic growth — by making it more expensive for individuals and businesses to borrow. The central bank hopes that higher borrowing costs will slow spending enough to tame inflation yet not so much as to cause a recession.
"We reduce federal borrowing, and we help combat inflation," Biden said at an event earlier Wednesday. "This process is a great deal, it's good news, but it didn't happen by itself."
President Biden earlier Wednesday highlighted how far the federal deficit has fallen under his tenure, pointing to a new report from the Treasury Department that estimates this fiscal year’s budget deficit will decline $1.5 trillion.
That decrease marks an improvement from initial forecasts and would likely put the annual deficit below $1.3 trillion. The deficit also fell $350 billion in Biden’s first fiscal year.
“It's gone down both years since I've been here. Period,” he said at the White House on Wednesday.
The Democratic president has placed renewed emphasis on deficit reduction going into the midterm election, with administration officials saying that the burst of $1.9 trillion in coronavirus relief approved in 2021 has already paid off in the form of faster growth that now makes it easier to stabilize government finances.
“With the American Rescue Plan and other actions, we started to grow the economy from the bottom up in the middle out,” he said, listing pandemic stimulus checks, Affordable Care Act enrollment and the nation’s jobs growth.
“All the talk about the deficit from my Republican friends. I love it,” Biden quipped. “We're on track to reduce it by the end of September by another $1.5 trillion. The largest drop ever.”
While slowing inflation is a key priority, some worry that it may impact an already aggressive housing market.
“People are realizing that, you know, they can afford the house they're looking at this month, the next month, they might not afford to be able to afford it," Austin resident Joe Alarab told Spectrum News. "So they want to make an offer something that's aggressive.”
Alarab said that after Federal Reserve raised interest rates in March, the amount he got pre-approved to borrow dropped substantially, and now that rates are rising again, he’s bracing for another hit.
“It's going to change the way I try to buy, it's going to change the neighborhood's I look, it's gonna change the product type I'm even trying to buy," he told Spectrum News. "There's pressures from the interest rates, but there's also pressures from inflation.”
The Fed’s credit tightening is already having some effect on the economy. Sales of existing homes sank 2.7% from February to March, reflecting a surge in mortgage rates related, in part, to the Fed’s planned rate hikes. The average rate on a 30-year mortgage has jumped 2 percentage points just since the start of the year, to 5.1%.
Yet by most measures, the overall economy remains healthy. This is especially true of the U.S. job market: Hiring is strong, layoffs are few, unemployment is near a five-decade low and the number of job openings has reached a record high.