Uncertainty makes flexibility vital as Federal Reserve raises its rates

Russia’s invasion of Ukraine is accelerating the rise in prices around the world. The U.S. Federal Reserve should take all possible measures to deter inflation and respond to market turmoil.

The Fed has decided to lift its effectively zero interest rate policy, which had been in place since March 2020 as a measure against the coronavirus pandemic, and to raise its rates by a quarter percentage-point. This will be the first time in three years and three months for interest rates to be raised.

Continued monetary easing would overheat the economy and push prices even higher. The latest decision to tighten up by raising interest rates was appropriate. This can be seen as a turning point in global monetary easing.

Fed Chair Jerome Powell emphasized that the rate hike was based on factors including the strength of the U.S. economy, the improving employment situation and high inflation rates. The Fed will need to continue to manage its policy carefully, keeping a close eye on its impact on the global economy.

Due to the economic recovery from the pandemic and supply constraints caused by logistical disruptions and labor shortages, the U.S. consumer price index rose 7.9% in February from a year earlier, the highest rate in nearly 40 years.

Especially in the U.S., a vehicle-based society, it is said that the public is becoming increasingly dissatisfied with the high price of gasoline. It is only natural that the authorities would hurry to address inflation.

However, a sudden and sharp increase in rates could have a negative impact on the economy, as interest rates on business loans and mortgages would rise.

The Fed has announced that it expects to raise interest rates by a total of 1.75 percentage-point during 2022, including the latest hike. The pace of the hikes should be adjusted flexibly depending on the circumstances.

The invasion of Ukraine has increased risks to the prospects of the global economy. Economic sanctions against Russia, an exporter of natural resources and grains, have caused the prices of crude oil, natural gas and food to soar.

There are fears that the Russian government will default on its bonds, causing turmoil in financial markets. Steering relevant policy is becoming increasingly difficult.

In the event of financial instability, it is important for the Fed to work with central banks of other countries and regions to stabilize the market through flexible measures such as supplying dollar funds overseas.

When interest rates rise in the United States, it will be more advantageous to invest funds there than in Japan, and the dollar will likely be bought and the yen will weaken. A weaker yen could push up the price of imported products in Japan, spurring higher prices for energy and food products and cooling domestic consumption.

The Japanese government and the Bank of Japan should closely monitor U.S. monetary policy and exchange rate movements and consider measures to prevent the economy from stalling.

(From The Yomiuri Shimbun, March 18, 2022)