Federal Reserve Maintains Interest Rate At 22-Year High

Key Features

• As anticipated, the Federal Reserve chose to keep its key interest rate unchanged on Wednesday, continuing to exert pressure on borrowing costs for mortgages and other loans, which have reached levels not seen in decades.
• The Fed's series of interest rate increases aimed at curbing inflation hasn't deterred consumer spending but has adversely impacted the economy in various ways by driving up borrowing expenses.
• The real estate sector, in particular, has taken a severe blow from the surge in mortgage rates, which have more than doubled over the last two years, rendering housing unaffordable for many.

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The Federal Open Market Committee (FOMC), the Fed's policy-setting body, unanimously voted to maintain the influential fed funds rate within the range of 5.25% to 5.50%, a level it has held since July and the highest since 2001.

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This marks the second consecutive meeting in which officials chose not to alter the Fed's key interest rate, representing the first pause in two meetings since March 2022, when the Fed began raising rates from near-zero levels in an attempt to moderate economic growth.

The FOMC's policy statement in the latest meeting closely resembled the one released during its September session. It emphasized the importance of controlling inflation while acknowledging the potentially detrimental impact of persistently high interest rates on the economy, while also leaving room for further increases if inflation fails to sustain its downward trend.

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The Fed's interest rate hikes have resulted in increased borrowing costs for various types of loans, including mortgages, credit cards, car loans, and business loans. The objective is to discourage borrowing and spending, allowing supply and demand to realign

As interest rates climbed, consumer price growth slowed to 3.7% over the 12 months leading up to September, down from the peak annual increase of 9.1% recorded in June 2022, according to the Consumer Price Index.

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While the U.S. economy has seemingly shrugged off the impact of high borrowing costs, there have been far-reaching effects in certain sectors. The housing market has experienced a significant slowdown, with high mortgage rates making home purchases unfeasible for the majority of potential buyers. The average rate for a 30-year fixed mortgage nearly reached 8% last week, more than double the record low of 2.65% in January 2021, as reported by Freddie Mac. The rise in car loan costs has resulted in an increasing number of buyers facing monthly payments exceeding $1,000

High interest rates have prompted banks to adopt stricter lending practices, concerned that these rate hikes might lead to a recession and increase the likelihood of loan defaults.

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Businesses have also felt the strain of elevated rates, as demonstrated by the recent decision of Danish wind power company ?rsted to cancel a $5 billion development off the coast of New Jersey, citing weakened profitability due to high rates.

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S&P Global Business Intelligence reported that there were 516 bankruptcy filings by public companies by September, up from 263 at the same point in 2022, with rising interest rates being a significant contributing factor.

An additional reason the FOMC refrained from further rate hikes was the proactive role played by bond traders, who have been selling off 10-year treasury notes, resulting in increased yields that surpassed 5% for the first time in 16 years last week.

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This has added to the upward pressure on borrowing costs. According to an analysis by economists at Deutsche Bank, the drag on economic growth due to the market-driven increase in long-term interest rates is equivalent to three 25-basis point Fed rate hikes.

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During a press conference, Federal Reserve Chair Jerome Powell commented, "Perhaps the most important thing is that these higher treasury yields are showing through higher borrowing costs for households and businesses. Those higher costs are going to weigh on economic activity, to the extent this tightening persists.

Former New York Federal Reserve President William Dudley, speaking on Bloomberg TV, highlighted the notion that the markets are interpreting Powell's stance as indicating the Fed is finished with rate hikes, although that may not be the case.

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Dudley stated, "One of the problems the chairman has at this point, by talking to the markets in a sort of supportive way: Stocks go up, bond yields fall—that's loosening financial conditions. So that's removing some of the constraint that was creating some impetus for not tightening monetary policy further."

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While high interest rates are designed to curb spending, they have made saving money more accessible. Banks tracked by Investopedia are currently offering the highest rates on certificates of deposit and high yield savings accounts seen in years.

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This article has been revised post-publication to incorporate remarks made by Federal Reserve Chair Jerome Powell and Former New York Federal Reserve President William Dudley.

Author: Holmes C.

Editor: Raouf Boussaoui

6 Nov 2023