The Federal Reserve’s expected move to start tapering its monthly bond purchases beginning on Wednesday is a clear signal of confidence in the U.S. economic recovery from COVID-19, though questions remain about how the move will affect inflation, interest rates and the stock markets.
One thing most experts agree on is that the Fed isn’t likely to raise its key short-term interest rate from near zero either during a two-day meeting that starts today or in the near future, USA Today reported. The central bank has said it prefers to keep the rate near zero until the United States returns to full employment and inflation rises above the Fed’s 2% target for the right amount of time — something that might take several months.
“Markets are well functioning and inflationary pressures have been persistent,” Lauren Goodwin, economist and portfolio strategist at New York Life Investments, wrote in an email note to GOBankingRates. “The labor market has room to improve, but asset purchases are unlikely to move the needle on that point. As the Fed tapers its asset purchases, it has time to see whether supply chain bottlenecks and inflation relax.”
On the other hand, if Fed policymakers unveil plans to reduce bond buying at a faster rate than anticipated, it could be sign that rates will also be hiked earlier and faster than expected.
“Markets are betting the Fed will raise rates more quickly,” Kathy Bostjancic, chief U.S. financial economist for Oxford Economics, told USA Today.
So what would that mean for consumers? One thing you can expect from aggressive interest rate hikes is higher borrowing costs for mortgages, car loans, credit card bills and other loans.
It could also mean more volatile stock markets. As Reuters reported, Wall Street banks are already ramping up preparations to deal with spikes in market volatility and help clients manage risk. Many of those clients are concerned about the short-term impact of tapering on their portfolios as well as the longer-term implications of higher rates and inflation.
The move to start tapering asset purchases comes after about a year and a half of the Fed buying up government-backed bonds to help steady the financial markets during the pandemic and ensure that companies and consumers had access to capital. One potential benefit of tapering is that it could cool inflation, which has been on the rise in just about every sector of the economy.
“If tapering relieves some of the pressure of rising prices, then that has the potential to benefit many businesses,” Paul Colone, U.S.-based managing partner at investment bank Alantra, told Reuters.
Fed officials are expected to taper down monthly Treasury and mortgage bond purchases by $10 billion and $5 billion, respectively, starting this month, according to USA Today. Under this plan, bond purchases would end in June.
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