How quickly is the Fed tackling the challenge of raising interest rates?

The difficult part of Fed officials’ deliberations may be agreeing on how to signal the possibility of a rate hike in the coming months. Deteriorating inflation, already at 40-year highs, may force them to accelerate the process, but they have indicated they are trying to proceed with caution to avoid a sharp correction in financial markets .

Mr. Powell told lawmakers earlier this month that, due to the market turmoil caused by the war in Ukraine, he wanted to avoid adding to the uncertainty and opt for a large, half-cent, rather than the traditional, quarter-centre. Wanted to start with point enhancement. -point move. That big move has been advocated in recent weeks by some of his aides and some financial-market commentators, who say the Fed needs to swiftly remove its stimulus to demonstrate its seriousness in easing inflation. Is.

Mr. Powell earlier this month laid the groundwork for the possibility of a raise by 0.50 percentage points, or 50 basis points, later this year. He also suggested that the Fed may eventually need to raise rates to levels designed to deliberately slow economic growth.

Growing sanctions against Moscow as a result of Russia’s invasion of Ukraine are pushing up energy and commodity prices while increasing supply-chain barriers. New pandemic-induced lockdowns in Chinese manufacturing centers are also set to exacerbate those supply imbalances.

“If not for the geopolitical events, 50 basis points would certainly be on the table at this meeting,” said Nathan Sheets, Citi’s chief global economist. “The one thing Powell can do is capture the possibility of 50 down the road.”

The economic outlook has already forced a sharp shift in officials’ expectations of how quickly and quickly they will need to raise interest rates. Even though the Fed hasn’t actually raised rates, communications about its plans have sent borrowing costs into the economy for everything from business loans to credit cards to mortgages. According to Freddie Mac, the average 30-year fixed-rate home loan was down 4% last week, up almost a full percentage point from the start of the year, and it has climbed higher in recent days.

“From a policy-maker’s perspective, there is no need to shock the economy or shock the markets at this point,” said Greg Dako, chief economist at global consulting firm EY-Parthenon.

Fed officials are set to release their quarterly economic projections on Wednesday, after the conclusion of their two-day meeting. They would include an interest rate path that would suit the executives individually under their most likely economic outlook.

Six months ago, half of those officials said the Fed might need to raise rates once or twice this year, while the other half did not expect a rate hike until next year. In December, nearly all executives penciled in between two and four rate hikes this year. Most officials said their estimate would be reasonable given that core inflation, which does not include food and energy, would fall to between 2.5% and 3% by the end of this year, from 4.7% at the end of 2021.

Now, the authorities are facing a very disappointing outlook. The Fed’s forecast of a big drop in inflation this year relied on significant supply-chain relief that may not materialize anytime soon. And there are signs that demand has strengthened, with employers adding more than 1.1 million workers in January and February.

This could again lead to officials increasing the number of rate hikes they expect this year, with most or all of the expected increases in their remaining seven meetings this year. This would allow more executives to pencil in short-term interest rates that rise above the projected “neutral” setting that is designed to neither accelerate nor slow growth in the coming year.

Fed officials are cautious for signs that price pressures could push consumers and businesses to expect higher inflation to remain high, making those expectations self-fulfilling. If workers expect a strong inflation rate in one year, they are more likely to insist on higher wages now.

William English, a former senior Fed economist, said, “The risk of inflation remaining high for a while and driving up long-term inflation expectations is now greater and so they certainly need to raise rates higher than before.” will be inspired.” Now Professor at Yale School of Management.

In their projections for December, most Fed officials said they may not need to raise rates above neutral levels over the next three years. Most officials estimate the neutral to be between 2% and 3% when the underlying inflation—aside from the effects of the supply shock—is on the Fed’s 2% target.

But if underlying inflation rises, the Fed will need to raise rates even more to prevent inflation-adjusted, or real, rates from falling. When real rates fall, lending becomes more attractive, while simultaneously risking higher spending and higher demand, the central bank is trying to slow growth.

If consumers are expecting high inflation to remain, “just to get the same real interest rate, they may have to have a higher nominal rate,” Mr English said.

Interest rate hikes at the Fed’s next meeting in early May are widely expected in interest rate futures markets.

Mr. Powell could also provide an update on Wednesday on how much progress his aides have made in planning to shrink the Fed’s $9 trillion asset portfolio. The scheme can be started immediately after the May 3-4 meeting.