Fed Approves Half-Point Interest Rate Rise, Ratcheting Up Its Inflation Fight

Together, the steps mark the most aggressive Fed tightening of monetary policy at one meeting in decades, aimed at rapidly reducing the economic stimulus that has contributed to rising price pressures. The Fed, which usually lifts interest rates in quarter-percentage-point increments, last raised rates by a half point in 2000.

The rate-setting Federal Open Market Committee approved the decision unanimously. In a statement, the committee said it “anticipates that ongoing increases in the target range will be appropriate,” setting the stage for another large rate rise at the Fed’s meeting next month.

The statement cited the potential for Covid-related disruptions in China to sow further chaos to global supply chains that could keep inflation elevated. “The Committee is highly attentive to inflation risks,” it said.

Fed officials also finalized plans to start shrinking their mammoth holdings of Treasury and mortgage securities passively–that is, by allowing bonds to mature without reinvesting the proceeds into new securities rather than by selling them in the open market.

Officials will allow up to $30 billion in Treasurys and $17.5 billion in mortgage bonds to roll off every month in June, July and August. After that, they will allow $60 billion in Treasurys and $35 billion in mortgage securities to run off every month.

Officials have estimated that the process could allow up to $3 trillion in securities to run off the Fed’s portfolio over the next few years. They dramatically increased purchases of securities in March and April 2020–when the pandemic shook the U.S. economy–to stabilize dysfunctional financial markets and then continued to buy assets to provide extra stimulus to the economy.

The Fed’s holdings of mortgage securities and Treasurys have doubled since early 2020 to $2.7 trillion and nearly $5.8 trillion, respectively. Officials ended those purchases in March.

Reversing the portfolio expansion serves as an additional way to remove stimulus and lift borrowing costs, though the exact magnitudes of such tightening are difficult for policy makers and economists to quantify.

Because the Fed’s policy decisions Wednesday had been so heavily telegraphed, investors will focus on how Chairman

Jerome Powell

will describe the economic and policy outlook in his post-meeting press conference at 2:30 p.m. Eastern.

The questions of greatest interest to investors right now are two fold. The first centers on near-term tactical considerations as Fed officials race to catch up after repeatedly underestimating inflation pressures and the strength of domestic economic demand. Investors are trying to figure out how quickly the Fed might raise rates to a neutral level designed to slow growth, including what it might take for officials to accelerate rate rises to an even-larger 0.75-percentage-point step.

“The biggest problem the Fed always has is controlling the narrative of their plan for raising rates,” said

Vincent Reinhart,

a former senior Fed economist who is now chief economist at Dreyfus and Mellon.

By shifting from quarter-point to half-point rate rises, “the risk is investors just get way in front of themselves and expect much more tightening than the Fed is prepared to deliver,” said Mr. Reinhart.

Second, investors are looking for clues about how high the Fed might raise rates. For now, investors expect the Fed to raise rates by the end of next year to around 3.25%.

Between 2004 and 2006, the Fed raised its benchmark rate by 4.25 percentage points to a peak of 5.25%. Between 2015 and 2018, Fed officials raised rates from near zero to a range between 2.25% and 2.5% before Mr. Powell signaled an abrupt end at the beginning of 2019.

Write to Nick Timiraos at [email protected]