Fed keeps rates near zero, says hike likely ‘soon’

The Federal Reserve kept its interest rates range at near-zero levels Wednesday but hinted it would soon boost borrowing costs after a year of surging inflation.

The Federal Open Market Committee (FOMC), the Fed’s monetary policy arm, kept its baseline interest rate range at zero to 0.25 percent, the level set in March 2020 amid the onset of the coronavirus pandemic. The FOMC also said it would conclude its monthly purchases of Treasury bonds and mortgage-backed securities in March, in line with a pace of tapering set in December.

“With inflation well above 2 percent and a strong labor market, the Committee expects it will soon be appropriate to raise the target range for the federal funds rate,” the FOMC said in a statement.

The decision was unanimously approved by the FOMC.

The Fed was widely expected to hold off on a rate hike Wednesday even as it pivots away from a patient approach to rising prices. A majority of FOMC members expected the Fed to hike rates at least three times this year, according to projections released in December, after inflation rose well above their expectations.

The personal consumption expenditures index minus food and energy prices, the Fed’s preferred gauge of inflation, rose at an annual rate of 4.7 percent in November. That rate was more than twice the Fed’s average annual target of 2 percent. Consumer prices broadly rose 7 percent in 2021, according to the Labor Department’s consumer price index.

While the Fed had held off on hiking rates as the economy continued to recover from the coronavirus recession, officials ceded last month they could no longer afford to keep crisis-level rates amid high price growth and intense demand for labor. 

“In light of the remarkable progress we’ve seen in the labor market and inflation that is well above our 2 percent long-term level, the economy no longer needs sustained high levels of monetary policy support. That is why we are phasing out our asset purchases in way we expect it will soon be appropriate to raise the target range for the federal funds rate,” Federal Reserve Chair Jerome Powell said Wednesday.

The FOMC’s decision is the Fed’s latest step toward pulling back the unprecedented stimulus deployed as the emergence of COVID-19 derailed the global economy.

The Fed has kept rates near zero and purchased trillions of Treasury and mortgage bonds for nearly two years to keep borrowing costs low and financial markets flowing through the pandemic. Economists credit the Fed’s massive deployment, trillion of dollars in fiscal stimulus, and the speedy development of effective COVID-19 vaccines for the rapid recovery of the U.S. economy.

Unemployment fell to 3.9 percent in December, just 0.4 percentage points above pre-COVID levels and the U.S has recovered all but roughly 600,000 of the 21 million jobs lost as the pandemic began.

U.S. gross domestic product, stock prices and consumer spending are also well above pre-pandemic levels. But the pace of the recovery, ongoing supply constraints, and coronavirus-related constraints on labor force participation have also driven inflation to the highest annual rate in nearly 40 years.

Powell expressed confidence Wednesday that the labor market could handle the imminent start of interest rate hikes without losing jobs. He cited nominal wages rising sharply, a record high ratio of open jobs to unemployed workers, and historic levels of workers quitting their jobs to take more attractive positions.

“There’s quite a bit of room to raise interest rates without threatening the labor market. This is, by so many measures, historically tight labor market,” Powell said.

“This is a very, very strong labor market, and my strong sense is that we can move rates up without without having to severely undermine it.”

Powell added he expects several other forces to help bring inflation down this year, including supply chains catching up to intense demand, an eventual increase in labor force participation and the reemergence of several factors that kept inflation below the Fed’s target for years before the pandemic.

Even so, he acknowledged the uncertain economic impact of the omicron variant as a potential obstacle for the Fed’s soft landing.

The emergence of omicron caused a record-breaking spike in COVID-19 cases across the U.S. and dampened consumer activity for much of January. More than 12 million Americans missed work to care for themselves or loved with COVID-19 in the beginning of the month, according to federal data, while layoffs rose amid a decline in service sector spending.

Powell said while omicron will “surely” held back economic growth in the first quarter of this year, it is not yet clear how it will affect the Fed’s balancing of maximum employment and stable prices. While the pandemic may slow the economy and reduce demand, he explained, outbreaks and lockdown measures abroad could cause more costly supply chain disruptions.

Though Powell’s comments were in line with his previous remarks on the economy, the stock market began selling off soon after he began his press conference at 2:30 p.m. The Dow Jones Industrial Average, S&P 500 index and Nasdaq composite all fell sharply during Powell’s remarks and landed slightly below their opening levels.

Updated at 3:23 p.m.