The U.S. central bank has raised interest rates for the first time in more than three years, marking a major shift for the world’s largest economy.
The U.S. Federal Reserve (aka the Fed) decided to increase interest rates by a quarter of a percentage point.
Fed Chair Kevin Warsh cited a strengthening economy, persistent high inflation and international instability as reasons for the increased rate.
Australia’s interest rate is currently 4.35%.
The Reserve Bank is due to meet on 29 September, with an increase widely expected.
Interest rates
Central banks around the world set interest rates for their respective countries, which directly affect what banks pay to borrow from each other.
The cost is then passed on to the broader economy.
Central banks raise interest rates to reduce inflation.
The higher the interest rate, the more expensive it is to borrow money (increasing mortgage repayments).
The idea is that making it more expensive to borrow will slow spending and, in turn, slow down the speed at which prices are increasing.
The announcement
Overnight, the Fed unanimously voted to increase the target range from 3.5%–3.75% to 3.75%–4%.
Unlike in Australia, the U.S. central bank rate is a range.
Economists and investors widely expected the decision.
The reasons given for the hike were a strong U.S. economy, persistent high inflation and geopolitical instability (referring to the U.S. war with Iran).
Warsh refused to be drawn on the possibility of future increases, saying: “I’m not in the forward guidance business.”
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Trump
U.S. President Donald Trump announced Warsh as the next Fed Chair in January.
In the months leading up to his announcement, Warsh publicly favoured lower interest rates, a view strongly shared by the president.
Trump wants interest rates to be lower, arguing they lead to faster economic growth.
Warsh’s appointment raised questions about whether the Fed would cut rates even if inflation was above their 2% target.
Warsh took over the job in May from former Fed Chair Jerome Powell, who Trump had accused of Democratic bias.
In Warsh’s first two Fed decisions, interest rates were held steady.
After interest rates rose overnight, Trump expressed his unhappiness with the decision on Truth Social.
When asked if he had any discussions with Trump, Warsh declined to answer twice.
After the Fed increased interest rates, the Australian dollar slightly weakened against the U.S. dollar.
This means Australians buying U.S. goods and services pay more.
When a country raises its interest rates, it generally strengthens its currency as investors want to send their money to that country to earn that higher rate.
Australia’s central bank, the Reserve Bank of Australia (RBA), is due to meet on 29 September.
The RBA sets its own economic agenda and does not directly follow the Fed’s interest rate decisions.
However, economists and investors are leaning towards the RBA increasing interest rates, from 4.35% to 4.6%.
This is because Australia is facing issues similar to the U.S.: persistent high inflation, stronger-than-expected economic growth, and the flow-on effects of unrest in the Middle East.
