The Federal Reserve raised its key policy rate by 75 basis points on Wednesday, the biggest hike since 1994, and signaled further increases as the central bank struggles to bring inflation under control.
The bold move is designed to help bring the supply-demand situation back into balance. By raising the interest rate, borrowing money becomes more expensive for consumers and businesses. As financial conditions tighten, spending (i.e., demand) is expected to decline, which in turn should push down inflation.
"This is Chairman Jerome Powell and his colleagues saying that they understand stronger ammunition is needed to fight historically high and sustained inflation while also trying to recover lost credibility with monetary policy," said Mark Hamrick, senior economic analyst at Bankrate.
In addition to the policy decision, the Fed officials released their Summary of Economic Projections. Most of them now expect the bank's key interest rate to hit 3.25% in 2022. All three major U.S. stock averages pared gains in Wednesday midafternoon trading. The S&P 500, up 0.3%, had risen as much as 1.6% earlier in the session. The Dow is barely in the green, +0.1%, and the Nasdaq +1.0%.
Today's hike brings the federal funds rate range to 1.50%-1.75%. After two years sitting at 0.0%-0.25%, the Federal Open Market Committee began raising rates in March with a 25 bp rate hike. In May, it followed with a 50-bp increase, bringing the federal funds rate target range to 0.75%-1.00%.
As part of its tightening plan, the Fed will continue reducing the Treasury and mortgage-backed securities on its balance sheet as it had described in May. Kansas City Fed President Esther George, who preferred a 50 bp rate hike, was the only FOMC member to vote against the 75 bp increase.
The central bank pointed out that economic activity appears to have picked up after edging down in Q1 with robust job gains and a low unemployment rate. But inflation remains elevated with the Russian invasion of Ukraine and related events " creating additional upward pressure on inflation and are weighing on global economic activity."
In the FOMC's economic projections, the median outlook for the federal funds rate now stands at 3.4% vs. the 1.9% view at the March 2022 meeting. Median change in 2022 real GDP declined to 1.7% from 2.8% in March and median core PCE inflation projection rose to 4.3% from 4.1% previously. Notably, the officials still see core PCE inflation at 2.3% in 2024, still above its 2% target.
In commenting on the consumers' view of the rate increase, Bankrate's Hamrick said, "The cost of borrowing is becoming more expensive, particularly for those with variable rate products. Fortunately, on the other side of the rate equation, returns on savings will likely be improving, particularly for those who investigate more generous high-yield savings options."
Up next: Fed Chair Jerome Powell holds his post-decision press conference at 2:30 PM ET.
See Steven Cress's top stocks for Fed rate hikes.