US in biggest rate rise since 1994: As the Federal Reserve tries to tame runaway inflation with a 0.75% hike… will UK follow suit tomorrow?
America’s central bank has pressed ahead with its biggest interest rate hike since 1994, as it battles red-hot inflation.
The Federal Reserve bumped up its base rate by 0.75 percentage points last night, to the range of 1.5 per cent to 1.75 per cent, warning that the cost-of-living crisis is still ravaging the economy.
Inflation in the US hit 8.6 per cent last month, the highest in 40 years.
Resolve: The Federal Reserve’s chairman Jerome Powell (pictured) warned the cost-of-living crisis is still ravaging the US economy
And while officials were worried that hiking interest rates too fast could throw the Covid recovery into reverse, the Fed now seems to be more concerned about the squeeze which higher prices are applying to households and businesses.
The Fed’s rate-setting Open Market Committee said: ‘Overall economic activity appears to have picked up after edging down in the first quarter. Job gains have been robust in recent months, and the unemployment rate has remained low.
‘Inflation remains elevated, reflecting supply and demand imbalances related to the pandemic, higher energy prices, and broader price pressures.’
The 0.75 percentage point rate hike is a momentous move for the Fed – the central bank usually prefers to move the dial by a more gradual 0.25 percentage points. The rare bumper hike is a sign of just how worried policymakers are becoming about rising prices.
Adding to the drama the Fed also dramatically raised its forecasts for future interest rates, projecting its key rate could hit 3.8 per cent by 2024.
Richard Carter, of investment firm Quilter Cheviot, said: ‘The Federal Reserve has decided now is the time to up its aggressiveness in the battle against inflation.
‘Choosing to raise interest rates by 0.75 percentage points looks justified given the unrelenting inflation pressures being seen in the US at the moment.
‘There is no doubt that the Fed got themselves behind the curve on inflation and are now having to make up for lost time, and we expect to see several more rate hikes before the year is out.
‘Inflation has been stickier and more persistent than was expected, so it is unlikely now that this problem will simply just dissipate quickly over the second half of the year.’
ECB ‘short on details’
The European Central Bank (ECB) underwhelmed investors after calling an emergency meeting yesterday.
Policy makers met amid turmoil in bond markets, prompted by inflation fears, which was pushing up governments’ borrowing costs.
The move prompted speculation that the central bank would announce a policy to stave off a debt crisis in the eurozone, which could hit indebted countries such as Italy hard.
It said it would ‘accelerate’ completion of a tool to ensure the economies did not ‘fragment’ into their separate regions. Hetal Mehta, of Legal & General, said the ECB statement ‘was short on details’.
He noted that there was no sign of the oil price slipping significantly, and said it could even rise further when China ‘switches back on following various lockdowns’.
The Fed’s aggressive hike will pile pressure on the Bank of England, which is due to announce its latest interest rate decision today.
Rates in the UK are currently at 1pc, and traders are divided over whether the Bank will opt for a 0.25 or 0.5 percentage point rise.
Britain’s central bank is walking a finer line than its US counterpart. Inflation is also at a 40-year high, but cracks are already beginning to show in the economy.
Activity contracted for the second month in a row in April, and there were signs that the jobs market was beginning to weaken.
This means the Bank has less confidence that it can hike interest rates fiercely.
Though this could tame inflation, it will also put a dampener on growth.
But rising rates in the US are pushing up the value of the dollar, at the expense of sterling, as investors flock to a currency which is yielding higher returns.
The pound has slipped 10 per cent against the dollar so far this year, though it climbed by 1.33 per cent yesterday as traders placed tentative bets that the Bank of England might react to the Fed with its own larger rate hike.
A fall in sterling makes inflation in the UK even worse, as British importers find their pounds don’t stretch as far when buying goods like oil and food in foreign currencies.
Laith Khalaf, head of investment analysis at AJ Bell, said: ‘The global economy might be slowing, but central banks across the developed world are facing an existential question of credibility.
‘If they fail to act in the face of such rampant inflation, they undermine their very raison d’être, but by hiking rates aggressively, they put pressure on economic activity.’
He added that there would be ‘further thrills and spills in markets’ as investors ‘digest the end of the era of cheap money’.