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Federal Reserve Set to Raise Policy Rate to 5%, Possibly Last of Cycle

The Federal Reserve is poised to increase interest rates amid global efforts to combat inflation, with the possibility of reaching a plateau in the current rate hike cycle.

Jerome Powell
Jerome Powell

During a two-day policy meeting beginning Tuesday, the Federal Reserve is expected to increase the US central bank's benchmark overnight interest rate to its highest level in almost 16 years. This move comes amid the backdrop of the recent failure of a major US bank and could signal a potential plateau that will challenge the economy in ways not experienced since the 2007 financial crisis.

Central Banks Worldwide Near Possible Stopping Point for Rate Increases

Global central banks, including the Federal Reserve, are on the verge of potentially halting rate increases after aggressively tightening credit conditions to combat the worst inflation outbreak in four decades. The European Central Bank and the Bank of England are also expected to announce rate hikes this week and next.

Fed's Decision Could Mark Last Rate Hike in Current Cycle

The US central bank is the furthest along in the rate hike process and may indicate that this week's increase is the final one, at least for now. This pause could provide time for the economy to adapt to higher borrowing costs, tougher banking conditions, and a potential decline in inflation.

Uncertainty Lingers as Economy Shows Mixed Signals

The economy is displaying signs of both continued strength and a slowdown. Inflation is gradually decreasing, but the primary price index remains more than double the central bank's 2% target. Bank lending has stabilized, but a survey of lending officers is expected to reveal tighter conditions in the future.

Janet Yellen and Jerome Powell
Janet Yellen and Jerome Powell

Fed's Past Rate Hikes Provide Context for Current Decisions

The Fed's upcoming judgment will be compared to two previous scenarios: the 2004-2006 rate hiking cycle that concluded with a severe recession, and the "great moderation" of the 1990s, during which the Fed alternately raised and lowered rates to maintain nearly a decade of sustained growth.

Fed Likely to Adopt Data-Driven Strategy for Future Decisions

From this point on, analysts expect the Fed to adopt a meeting-by-meeting strategy, closely watching data to determine if inflation declines as anticipated or if further action is necessary. Despite the speed of recent rate hikes contributing to bank stress and potential commercial real estate market issues, Fed officials remain committed to maintaining high rates until inflation is under control.