The United States central bank, the Federal Reserve, has once again raised interest rates despite fears that the move could lead to financial instability following a string of recent bank failures. This latest increase of 0.25 percentage points marks the ninth rate rise in a row by the Fed, which has been increasing borrowing costs in an effort to slow the economy and combat rising inflation.
However, such sharp rate rises have also led to strains in the banking system, as evidenced by the recent collapses of Silicon Valley Bank and Signature Bank. While these failures have not been seen to pose a significant threat to overall financial stability, they have raised concerns about the potential for further strain on the banking system.
The Federal Reserve has acknowledged these concerns, stating that while the US banking system remains “sound and resilient,” continued banking turmoil could have a negative impact on economic growth. As a result, the Fed has toned down its earlier statements that suggested further rate rises were likely to be needed in the coming months, instead suggesting that “some additional policy firming may be appropriate.”
Despite the challenges posed by higher interest rates, the Fed believes that such actions are necessary to combat rising inflation. Inflation, the rate at which prices climb, has surged in the US, jumping 6% in the 12 months to February. This has prompted the Fed to take action in an effort to cool prices, with the hope that higher interest rates will lead to reduced demand and ultimately lower prices.
While the Fed’s efforts have had some success in slowing the US housing market, where purchases have declined sharply over the past year, inflation continues to rise faster than the 2% rate considered healthy. The cost of some items, such as food and airfare, is surging even faster than the overall rate of inflation.
The situation has led to some speculation that the Fed may need to raise interest rates even higher than expected in order to bring inflation under control. However, forecasts released by the bank suggest that interest rates will remain unchanged, with rates of roughly 5.1% anticipated at the end of 2023.
This could have significant implications for the US economy, particularly if continued banking turmoil leads to tighter credit conditions for households and businesses and weighs on economic activity, hiring, and inflation.
In the midst of this challenging economic climate, the Bank of England is also set to make its own interest rate decision on Thursday, following official figures that show inflation in the UK unexpectedly shot up in February to 10.4%. With economic uncertainty and inflation on the rise both in the US and abroad, it remains to be seen how central banks around the world will navigate these challenges and work to promote stability and growth in the years to come.