Goldman Sachs Group Inc. (NYSE:GS) economists say that the US Federal Reserve will raise interest rates to 5%. This is higher than what was previously predicted by the group.
In March, the Fed will raise its benchmark rate by 25 basis points to a range of 4.75% to 5%, Goldman’s economists led by Jan Hatzius wrote in an Oct. 29 research report.
The new peak will be reached by increasing the rate by 75 basis points this week, then 50 more in December, with 25 additional increases in February and March, they said.
The economists offered three reasons why they believe the Fed will raise rates beyond February, starting with inflation- which at 8.3% is “uncomfortably high.”
The Fed has targeted an inflation rate of 2% as measured by the Consumer Price Index (CPI) since 2012, one of its dual mandate objectives along with stable and low unemployment levels.
When inflation is high, it erodes the purchasing power of consumers and businesses, raises production costs, and can lead to volatile financial markets. High inflation can also slow economic growth.
The Fed tries to keep inflation in check by raising interest rates when inflation is rising too fast and lowering rates when it’s falling too fast. So when inflation is at the levels it is right now, the Fed is uncomfortable and is forced to take action to cool down the economy.
Goldman’s team said that cooling the economy is necessary as fiscal tightening ends and price-adjusted incomes rise.
As the economy continues to improve, many experts are calling for a cooling off period. They believe that fiscal tightening and rising price-adjusted incomes could lead to more inflationary pressures.
While some argue that the economy can handle a little inflation, others believe that it is necessary to take steps to cool the economy now in order to avoid larger problems later.
Given the current state of the economy, it seems prudent to err on the side of caution and take steps to ensure that inflation does not become a problem. Therefore, cooling the economy is necessary at this time.
Preventing a premature easing of financial conditions was Goldman’s third reasons for expecting a Fed hike beyond February. In fact, the Fed’s decision to continue raising rates is a sign that policymakers are confident in the economy’s ability to withstand higher borrowing costs. The rate hikes also reflect the Fed’s desire to control the pace of economic growth.
While the Fed’s actions may cause some short-term pain for borrowers, they are intended to promote sustainable economic growth and avoid an eventual market correction. In other words, the Fed is trying to head off a potential recession by making it more expensive for consumers and businesses to borrow money. By doing so, the central bank hopes to prolong the current economic expansion and avoid an unnecessary downturn.
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