On March 16th, Fed Chairman Jerome Powell announced a .25% rate hike of the federal funds rate. This is tamer than what we expected was going to happen, as some economists were expecting a .50% hike this month. What is the federal funds rate? This is the rate at which commercial banks lend money to each other overnight. There is a bit more color with a rate ceiling and rate floor, however in simplest terms, the more expensive it is for commercial banks to lend, the higher the rates for consumers. As it becomes more expensive for consumers to borrow money, demand drops. This is one way the Fed hopes to pull back the current inflation rate. Their goal, given to them by congress, is reaching an inflation rate of 2%. What does this mean for mortgage rates? They will continue to rise at the same or quicker pace than they currently are.
Jerome Powell also said there is a “misalignment” in the labor market, but not a wage-price spiral. A wage-price spiral is the economic phenomenon of price increases as a result of rising wages. When workers receive a wage hike, they demand more goods and services which in turn, causes prices to rise. The wage increase then increases costs on businesses that are passed onto the consumer in terms of higher prices. Powell does not believe that is what we are seeing now, but a misalignment of supply and demand in the labor market. “What we have now, if you look at the wage increases that we have ... the increases are running at levels that are well above what would be consistent with 2% inflation, our goal, over time,” he stated.
The Fed noted as well that they will begin reducing their balance sheet, or “expects to begin reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities at a coming meeting.” The last alteration was in 2019 and the Fed’s balance sheet now is sitting at about $9 trillion dollars. They are expecting to cut it by about 1/3rd in the next iteration in May.