The president of the San Francisco Federal Reserve on Wednesday said the central bank is likely to raise a key interest rate to as high as 2.5% by year end in a bid to help douse raging U.S. inflation.
“I see an expeditious march to neutral by the end of the year as a prudent path,” Mary Daly said in a speech at the University of Las Vegas.
Her remarks suggest the Fed would raise rates at least a few times in half-point increments, perhaps as soon as the central bank’s May strategy meeting.
The central bank views 2.5% as neutral for its short-term fed funds rate, meaning it neither helps nor hurts the economy. The cost of borrowing for a house, car or business loan are influenced by the Fed’s benchmark rate.
The Fed last month lifted its short-term rate for the first time since the pandemic after keeping it near zero during the crisis in an effort to stimulate the economy.
While the Fed’s actions helped shield the U.S. from an even deeper recession, its easy-money strategy also contributed to the worst bout of inflation in 40 years. The cost of living jumped 8.5% as the 12 months ended in February, the consumer price index shows.
A sharp recovery and the return of millions of people to work, however, means the Fed no longer has to support the economy, Daly said. “Moving purposefully to a more neutral stance that does not stimulate the economy is the top priority.”
Daly and other senior Fed officials have signaled they plan to raise rates quickly to try to ease upward price pressures and assure Wall Street DJIA, +0.81% investors and the public that the central bank won’t let inflation continue to run rampant.
“Across the country, Americans are waking up and going to bed worried about whether their incomes will keep up with the rising cost of rent, food, and fuel,” she said.
“Businesses are also worried, thinking twice about committing to long-term
contracts that may become too costly to fulfill if prices continue to rise.”
Yet Daly, viewed as one of the Fed’s more dovish officials, also cautioned that the central bank has to make sure it doesn’t go too far too fast.
“If we slam the brakes on the economy by adjusting rates too quickly or too much, we risk forcing unnecessary adjustments by businesses and households, potentially tipping the economy into recession,” she warned.
By early next year, the Fed will be able to gauge the effects of higher rates, she said. and adjust as necessary. She blamed most of the increase in inflation on disruptions caused by the coronavirus that she expects to fade in time.
More recently, she noted, the war in Ukraine has added to inflationary pressures by pushing up prices of oil and grains such as wheat.
“All of this means that it’s hard to fully know what next year will look like,” she said.
Still, Daly insisted that inflation would eventually subside and return close to the Fed’s 2% target within the next few years.
“I have it at 2%,” she said. “That’s where I think it is going.”
Daly is not a voting member this year of the Fed’s interest-rate setting panel known as the Federal Open Market Committee.