Trade War Risks Lead To Gradual Rate Hikes

The Federal Reserve exemplified strong economy warranted continued increases in the benchmark policy rate while citing tensions rising with emerging-market turmoil and the trade war. As growth gets a boost from tax cuts and additional government spending, U.S. central bankers are trying to keep the economy on a substantial path. Minutes from the last Fed meeting further supported a slightly restrictive monetary policy due to the outlook that low unemployment will lift wages and keep inflation near their two percent target over the medium term. However, they also showed concern that trade wars could hurt business sentiment and investment.

Officials say, “They have a lot of reasons to keep raising interest rates gradually. However, you get a sense that they are also preparing for surprises.”

Not only that, but the U.S. has imposed tariffs on imported steel and aluminum while threatening to slap more levies on other products from some of its biggest trading partners, particularly the European Union and China. Retaliation could slow global expansion and spark a trade war. U.S. tariffs on $34 billion of Chinese goods have gone into effect.

U.S. unemployment was at its all-time low, around 3.8% and the preferred gauge of consumer prices rose 2.3% on annual basis in May. Officials claim that they will tolerate a slight overshoot to bolster inflation expectations.

However, with the economy strong and unemployment below their estimate of its long-run sustainable rate, it would likely be appropriate to continue gradually raising the target range for the federal funds rate to a setting that was at or somewhat above their estimates of its longer-run level. On the other hand, a prolonged period in which the economy operated beyond potential could give rise to heightened inflationary pressures or to financial imbalances that could lead to a major economic downturn.