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The US Federal Reserve is expected to raise its benchmark policy rate by half a percentage point for the first time since 2000 and formalise plans to shrink its $9tn balance sheet, as it embraces a more aggressive approach to tackling elevated inflation.
At the end of its two-day policy gathering on Wednesday, analysts predict the Federal Open Market Committee will lift the target range of the federal funds rate to a range of 0.75 per cent to 1 per cent, marking the first time since 2006 the central bank has delivered rate increases at back-to-back meetings.
The policy statement will be released at 2pm Eastern time, followed by a press conference with chair Jay Powell.
At its March meeting, the Fed raised rates a quarter of percentage point from the near-zero level where they had hovered since the onset of the pandemic and signalled a series of increases to come this year. Since then, top officials have backed a much more rapid withdrawal of their policy support in light of one of the tightest labour markets in history and signs that price pressures are becoming entrenched.
Taking the cue from Powell, the Fed’s top ranks now endorse the central bank moving monetary policy “expeditiously” this year to a “neutral” setting that neither speeds up nor slows economic activity.
Officials have suggested a neutral fed funds rate is between 2 and 3 per cent, but many economists reckon it is much higher, given how much inflation has overshot the Fed’s 2 per cent target. Core inflation, as measured by the central bank’s preferred personal consumption expenditures price index, reached 5.2 per cent in March compared to the previous year.
Half-point rate rises are now expected in short order, with additional adjustments likely in June and July. If the Fed then raises rates by just a quarter percentage point at each of the meetings in September, November and December, the fed funds rate would hover between 2.5 and 2.75 per cent by year-end.
The Fed on Wednesday is also expected to confirm its plans to shrink its portfolio of Treasuries and agency mortgage-backed securities, which has ballooned since early 2020 as it hoovered up bonds to support the economy.
The central bank is set to begin reducing its holdings in June through a process called run-off, in which it ceases to reinvest the proceeds of maturing securities. The monthly pace is forecast to be increased over three months to a maximum rate of $95bn — $60bn in Treasuries and $35bn in agency MBS.
When the amount of maturing Treasuries falls under $60bn, the Fed will make up the difference by reducing its holdings of shorter-dated Treasury bills.
That is far faster than the Fed’s previous attempt to shrink its balance sheet, a process that kicked off roughly two years after the Fed first raised rates in 2015 after the global financial crisis. It initially set a $10bn monthly cap on asset reduction, which was gradually lifted to $50bn.
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