Interest rate hike
To help curb the post-pandemic boom that fueled unchecked inflation, the Federal Reserve has raised short-term interest rates multiple times this year and is expected to continue raising them in an effort to prevent soaring prices from turning into a full-on recession. This is a delicate balance, since increasing rates makes it more expensive to borrow money and reduces consumer demand that drives business investment and growth.
While higher rates can also encourage saving, the goal is to slow consumption and business investment without bringing the economy to a screeching halt. For the financial markets, taming inflation is generally seen as a positive, and stock prices have responded positively to the Fed’s announcements.
But the impact of these policies extends well beyond America. As previous research shows, interest rate increases by wealthy countries can limit the availability of credit in developing economies. That may be a bigger risk than the current shortages of energy in global markets. In this Brookings Podcast episode, scholars Sebnem Kalemli-Ozcan and Filiz Unsal discuss their recent study, which shows how improved monetary policy credibility in emerging markets has improved their resilience to American interest rate moves.
The Federal Reserve’s most common tool for controlling inflation is to increase the Federal Funds Target Rate, which is the interest that banks charge and receive when they lend excess funds to each other overnight. This is a short-term rate that impacts a variety of other rates in the economy, including savings rates and credit card and mortgage rates.
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