Will the FED hike interest rates again in February? How much and how can it affect you?

On Wednesday, 1 February, the Chairman of the Federal Reserve, Jerome Powell, is expected to announce further increases to the Federal Funds Rate (FFR).

Financial markets fell on Monday as investors anxiously awaited the Fed’s announcement, as well as quarterly reports from major corporations, including Meta, Alphabet, McDonald’s, and many others.

How much will the Federal Reserve increase rates in February?

In the economic forecast released by the Federal Reserve in December, a majority of the members of the bank’s Federal Open Market Committee believed that an FFR of 5.1 percent would be necessary for 2023 to bring inflation back under control. In 2022, most members believed that a 4.4 percent FFR would put the economy on a track to cool prices across markets.

After December’s Employment and Consumer Price Index reports showed both a slowdown in hiring and inflation, the Federal Reserve is likely to respond with a softer rate hike than those seen in 2022. Last month, the central bank raised rates by half a percent, to 4.25-4.5 percent. It would be a surprise to many if the bank chose to increase rates to 5.1 percent in February; more likely is a rate hike of a quarter of a percent is implemented.

For anyone looking to purchase a house or borrow from a bank, these higher rates may make it harder to access credit. After all, this is the desire of the Fed: by decreasing the demand for borrowing, the flow of money through the economy slows and is typically followed by a decrease in inflation.

What does the Federal Reserve consider when adjusting interest rates?

The Federal Reserve has a target of keeping inflation under two percent a year. When these levels are exceeded, the central bank adjusts the FRR to send strong signals to individuals and firms operating in the economy.

In 2021 and the first few months of 2022, some economists and business owners blamed inflation on the tightness of the labor market, which had given workers the power to demand higher wages and better conditions. However, the Fed now says that “wages do not appear to be driving inflation in a 1970s-style wage–price spiral.” The inflationary crisis of the 1970s was driven by conflicts between labor and corporate bosses. Workers with the power to demand higher wages exerted this leverage, and corporate leaders responded by increasing prices to prevent net losses after paying out higher wages.

Today’s situation is very different and has little to do with workers or worker power. According to Federal Reserve Vice Chair Lael Brainard, while wages have “grown faster than the pace consistent with 2 percent inflation and productivity growth,” they have “grown slower than inflation over the past two years” and noted that “aggregate real wages have fallen.”

Vice Chair Brainard acknowledged that the Fed believes prices are being driven by a “price-price spiral” in that “final prices have risen by more than the increases in input prices.” The way the “price-price spiral” is described is quite heavy on buzzwords but essentially represents a situation where the growth rate of corporate profits exceeds the growth rate of wages. This disequilibrium indicates that “supply constraints” may be driving inflation and that as they “ease” and “inventories rise” to meet demand, the economy may finally see “disinflationary pressures.” If this is the case, economists like Joseph Stiglitz have a stark warning for the Federal Reserve, “raising interest rates could do more harm than good.” If the cost of borrowing increases, then the Fed risks “making it more expensive for firms to invest in solutions to the current supply constraints.” Firms could stop investing in these price-lowering measures and pass along the costs to consumers, leading to an increase in inflationary pressure.

For Stiglitz, this is especially true when it comes to housing, one sector the Fed is desperate to see prices come down in. The Fed hopes that by increasing rates, some buyers unable to cope with a higher interest rate tacked onto their mortgage will leave the market, cooling demand and bringing down prices. So far, any such indication that the costs of shelter are coming down remains to be seen, with the CPI tracking an 0.8 percent increase in housing costs in December. Already, there are signs that new construction in the housing sector is decreasing, further limiting supply which " is precisely what is needed to bring down one of the biggest sources of inflation.”

The portfolio of data the Federal Reserve uses to determine interest rates is vast, and depending on which indicators they choose to focus on will provide insights into the central bank’s thinking as a new year begins.