Interest rates go up - but not by a lot. Which is the right path for today

Oh no, interest rates are going up!

The Federal Reserve on Wednesday raised short-term interest rates for the first time since 2018, as high inflation pushes the central bank to pull back on its extraordinary pandemic-era support.

The U.S. central bank lifted its benchmark Federal Funds Rate by 0.25%, to a target range of between 0.25% and 0.50%. The Fed also noted that the economic outlook remains “highly uncertain” in the face of the war in Ukraine.

By notching up rates, the Fed kicks off a process of raising borrowing costs in the hopes of quelling the demand that may be pushing prices higher.

Projections released by the policy-setting Federal Open Market Committee signal the likelihood of the Fed raising rates up to six more times this year (which would mean rates 1.75% higher at the end of this year than last).

Rates have been at rock-bottom levels for 2 years now, while the economy has made a nearly-full recovery as unemployment has dropped below 4% and higher demand has led to profiteering higher wages and inflated prices in many areas.

In addition to the interest rate outlook, I think it’s worth looking at what the Fed thinks will happen with the economy in the next few years, and how they’ll adjust to it.

You can see that the reason for the drop in projected GDP growth is due to higher inflation. In fact, the Fed says that nominal GDP growth will go up slightly (to 7.2% from 6.7%), but that increase will reflect higher prices instead of more output.

While the Fed says this raises interest rates by 1% more than originally projected, if people are locked into fixed loans today, is that as big a deal as it sounds? It hurts the chances of growth being sustained ahead, and I certainly worry about the effects of real estate and commodity Bubbles deflating in the coming months and years (it’s coming, folks). But if you’ve already put yourself in a better economic position during the Biden Boom, a little calming isn’t going to hurt much. Honestly, I'm glad the Fed hasn't overreacted to the high inflation numbers. If you're giving me the choice between 6% inflation and 6% unemployment, give me the price increases every time. Sure, things are rising too quickly for now, but hitting the brakes too fast (with rapid half-point increases and/or hikes happening between meetings) and having this economy skid out would be worse than what we're dealing with today.

Tough needle to thread, but there's quite a while to see if the Fed can poke through.