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The Federal Reserve approves the first interest rate hike since the start of the pandemic due to the rise in inflation | Economy

Jerome Powell, chairman of the Federal Reserve, appears before a Senate committee on March 3.
Jerome Powell, chairman of the Federal Reserve, appears before a Senate committee on March 3.POOL (REUTERS)

The US Federal Reserve (Fed) announced this Wednesday the first increase since 2018 in interest rates to try to curb inflation, the highest in four decades, in a situation of turbulence and shock exogenous: the war in Ukraine, the rise in oil prices and the ban on Russian crude, and the new lockdowns in China, which could further disrupt supply chains, affected by the global congestion of 2021. In order not to harm the growth, which last year was 5.7%, the Fed has proceeded cautiously, with a first increase in the reference rate by 0.25 basis points, to the range of 0.25%-0.50%. It is the first of the five or six that are expected this year, up to a rate of around 1.50%.

The objective is clear: for commercial banks to charge their clients more for lending them money, after months of unbridled consumption that has translated into increasing pressure on prices. The uncertainty about the war in Ukraine, and in particular the volatility of crude oil and food, recommended caution. Jerome Powell, president of the Fed, already ruled at the beginning of the month in an appearance before a Senate committee for a rise of 0.25%, instead of 0.50%. Powell then stressed the goal of “a soft landing” and his confidence in the institution’s ability to “control inflation without causing a recession.”

The meeting of the monetary policy committee (FOMC, in its English acronym) has also updated its forecasts for GDP growth, inflation and unemployment. Regarding GDP, the Fed has lowered its expectation for this year to 2.8%, compared to the 4% forecast, due to the impact of the war in Ukraine, “which could create additional upward pressure on inflation and weigh on the economic activity,” explains the FOMC statement. It should be remembered that, unlike other central banks, the Fed has a mandate to seek full employment.

Knowing the measures in advance, the oracle of the Fed expected, above all, messages of calm about the medium-term perspectives. The immediate ones suggest certain signs of relief amid the risks: the drop in the price of oil in recent days and, on Monday, a 2.14% return on 10-year Treasury bonds, the highest level since 2019, and nearly four times the low recorded during the pandemic in 2020. An increase in bond yields usually means a stronger economy. Last week, however, Goldman Sachs cut its growth forecast for this year to 2.9%, down from 3.5% forecast in early January. Google searches for the term “stagflation” – the combination of stagnant growth and high inflation – such as that seen in the 1970s, have skyrocketed in recent weeks.

The historical framework of inflation makes it possible to look in the rear-view mirror in search of effective recipes, although at different costs. Like the one applied by Paul Volcker, the Fed chairman who tamed the price bull run of the 1970s and early 1980s by aggressively and painfully raising interest rates. The experience of Ben Bernanke at the head of the Fed between 2006 and 2014, the period of the Great Recession, is also remembered. Both crises had different roots: the first, the global oil crisis of the seventies; the second, the bankruptcy of Lehman Brothers and the implosion of mortgage loans. Powell and Bernanke, both appointed by Republican Administrations, have exchanged impressions in recent weeks.

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“Bernanke eloquently expressed in 2004 the dilemma of central banks when faced with a shock exogenous [como el actual]: ‘Monetary policy cannot compensate for the recessive or inflationary effects of an increase in oil prices at the same time’. You have to choose. Despite all its limits, the Fed today clearly follows the Bernanke Doctrine. There were plenty of signs before the pandemic that the US economy was growing too fast and inflationary pressure had turned self-sustaining. Therefore, it makes sense to raise rates in the shock current energy price and we expect the first rise of 0.25% to be announced this week,” Gilles Moëc, chief economist at AXA Investment Managers, anticipated on Monday.

Volcker’s painful prescription for containing inflation backfired: he shot the short-term interest rate to almost 20% and unemployment to almost 11% in 1981. An ill-advised experiment for Powell, in the tunnel out of a pandemic and in the midst of Europe’s first war in 80 years, whose economic shockwaves will continue to be felt even if a ceasefire is reached. Unlike then, in the aftermath of the serious oil crisis of 1973, but without war and without covid, the Fed now seems to have reacted in time. Analysts think so: Since the Fed is acting sooner, it may not need to raise rates as sharply, which could prevent the economy from slipping into a deep recession. Volcker in 1981 reacted late, and that is why the rise was so radical.

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