Loyola University Chicago School of Law, JD 2024
During this long battle with inflation, the Federal Reserve (the Fed) has now raised the interest rates by a quarter for the ninth time in a year. In February 2023, the Fed increased the rates by a quarter from 4.75% to 5%. Rates haven’t been at this level since the mid-2000s. The higher rates help beat inflation, but I think they do that at a cost to the U.S. economy and possibly the global economy.
The higher interest rates
The Federal Reserve System is one of several banking regulatory bodies that regulate different state-chartered member banks, bank holding companies, foreign branches of U.S. national and state member banks, Edge Act Corporations, and state-chartered U.S. branches and agencies of foreign banks. The Fed is the most powerful economic institution in the U.S. and possibly the world. It sets interest rates, manages the money supply, and regulates financial markets.
In March 2022, the first of nine hikes, interest rates were raised by .25% bringing the rate from around .25% to .5%. These interest rate hikes are meant to reduce inflation by making the costs of borrowing more expensive, which in turn would limit how many people are borrowing against a bank. However, if the rate gets too high, it can push the economy into a recession. As of March 2023, the rate went from 4.5% to 5% this year, the highest the rate has been since October 2007.
Continuously raising interest rates hurts the economy
Interest rates take a while to impact the economy, but when they do, the job market is one of the places they affect. Raising interest rates results in slower job growth and fewer job openings. Beating inflation is critical for the Fed, but so is promoting full employment and preserving the stability of the financial system. The prices of items keep rising, but the salary and pay increases are set to fall from over 5% to around 4%. This will lead to households having less money to live off of, which in return will raise the poverty rate.
These interest rate hikes have slowed down the U.S. economic growth. The US economic growth is now projected to slow down from 2.7% to 1.4% in 2023. A recent poll now puts the chance of a recession in 2023 at 61%. The Conference Board, a company that delivers business insights, predicts a 96% likelihood of a recession within the next 12 months. In order to fight this recession, the Fed will need to start cutting rates to stimulate the economy.
Then, these increasing interest rates have helped led to some banks failing, such as Silicon Valley Bank and Signature Bank. Higher rates can yield higher profits for banks, but can also create lots of risks. Higher rates tighten credit conditions and make it harder for financial institutions to finance themselves and support the value of their existing loans and assets. The higher rates cause the banks to raise loan rates and increase deposit rates which in return makes it harder for consumers to get loans. Smaller banks have faced liquidity crunches due to the rising interest rates making what would have been safe long-term investments lose their value.
Additionally, these increasing interest rates are slowing down the growth of the global economy. Since the U.S. has one of the world’s largest economy, every economic move the U.S. makes has an effect on the global markets. At the end of 2022, the economic growth was improving: strong labor markets, inflation, robust household consumption, and business investment. Now, since the interest rates are raising in the U.S., countries that import to the U.S. will face increased importing costs and a global recession could occur. Sub-Saharan Africa, which accounts for around 60% of the world’s extreme poverty, is expected to average a growth rate of 1.2% over 2023-24, which could cause poverty rates to rise. The International Monetary Fund, a global organization that provides loans to member countries, monitors the international monetary system and global economic development, and provides technical assistance training to governments, currently projects the global growth to be at 2.7% in 2023, slowing from 3.2% in 2022. With the Ukraine-Russia war already threatening the global economy, these increasing interest rates do not need to damage the economy more.