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The 25 basis point interest rate hike is the first in three years and comes ahead of crucial US midterm elections.
The US Federal Reserve announced it would raise interest rates by a quarter of a percentage point as inflation caused by soaring fuel prices due to the war between the US and Iran continues to weigh on the economy.
The US central bank, the Federal Reserve, announced on Wednesday that it would raise interest rates by 25 basis points to 3.75-4%.
The rate hike is the first in more than three years and comes just weeks before the U.S. midterm elections, despite repeated calls by President Donald Trump for lower interest rates.
“Economic activity is expanding at a steady pace. Domestic spending remains resilient, although uncertainty remains high due in part to geopolitical developments,” the Fed said in a statement Wednesday.
“Inflation remains elevated. Today’s policy actions will support a timely return to the Committee’s 2 percent target. The Committee will achieve price stability.”
After Wednesday’s hike, Fed officials expect one more rate hike this year, according to quarterly forecasts.
CME FedWatch, which tracks the likelihood of monetary policy decisions, predicts a 92.3% chance the Fed will raise rates to 3.75% to 4%. A week ago, the same forecast had a 40% chance of a one-quarter rate hike.
But a few days later, a flood of data has overturned those predictions.
As an example, consumer prices rose 0.4% in August, the highest growth rate in four months. On an annual basis, the job market remained healthy, while prices rose by 3.4%, matching the rise recorded in July.
Since then, benchmark oil prices have continued to soar as attacks in the US and Israel’s war against Iran intensify. Brent crude oil hovered around $109 per barrel on Tuesday.
The average price of a gallon of gasoline is $4.36, up 14 cents over the past week and up from $4.06 last month, according to the American Automobile Association (AAA), which tracks daily gasoline prices.
Diesel, on the other hand, hit a record high average price of $6.31, almost double what it was a year ago. This is expected to push prices even higher, as trucks transport everything from fruit and vegetables to steel and cement, which are powered by diesel.
At the same time, the benchmark 10-year Treasury yield breached the psychologically important 5% mark on Tuesday, hitting a 19-year high of 5.02%. Yields act as a proxy for the cost of borrowing, such as car loans and mortgages, and are a bellwether of inflation.
“The economy is in an unusual situation,” said Michael Klein, a professor of international economic affairs at Tufts University’s Fletcher School and editor-in-chief of the nonpartisan economic and social policy publication Econofact, because while unemployment remains comfortable, prices remain high and inflation exceeds the Fed’s 2% target.
As the president continues to push for lower interest rates, Klein said, “There’s been a lot of pressure on Chairman Warsh to raise rates as inflation remains high, but concerns about President Trump’s pressure are adding to the pressure.”
“Rising interest rates tend to weaken the economy… but if the market believes there will be a rate hike, this won’t be news because the rate hike is already priced in as prices move on the news,” Klein said, adding that should help stabilize yields.
