The housing market is slowing, technology companies are cutting back on hiring, and unemployment claims are inching upward as a result of the Fed‘s continuous interest rate hikes.

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However, with inflation still near a four-decade high, many economists believe it will take a recession and considerably higher unemployment to drastically reduce pricing pressures. With such high inflation, the Fed Reserve is under tremendous pressure to hike interest rates to cool off prices a bit.

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“We have to curb things domestically to help us get where we want to go on inflation,” said Bank of America chief US economist Michael Gapen, who’s forecast a mild recession starting in the second half of 2022.

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Fed chair Jerome Powell has said that failing to achieve price stability would be a “bigger mistake” than causing the United States to enter a recession. However, Fed policymakers still believe they can prevent a recession and provide a gentle landing for the economy. 

They say that the economy has fundamental strengths and have expressed optimism that inflation will subside as fast as it has surged.

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The Fed’s primary instrument for managing inflation is its power to control interest rates. Based on what it sees in the economy, the Fed can raise or reduce its benchmark rate, known as the federal funds rate. The federal funds rate affects how much banks and other financial organisations pay to borrow, which in turn affects individuals and businesses.

Low-interest rates stimulate the economy by making it less expensive for firms and consumers to invest in new projects, hire new employees, or take out loans to purchase expensive things like houses or vehicles. Higher interest rates have the opposite effect, slowing the economy by lowering consumer demand.

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When there is an imbalance between supply and demand in the economy, inflation rises. When the Fed hikes its key interest rate, all types of lending become more costly. Mortgage rates rise. Auto loans are no exception. Over time, this lets supply and demand equalize.

Inflation is near 40 year high. Prices in August were 8.3% higher than the previous year. The Fed has set a target of 2% inflation but as it hikes interest rates, inflation continues to rise. The Fed has frequently had to ramp up its reaction, even if it means slowing the economy to the point of entering a recession.

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The central bank confronts a difficult task since at least some of the increasing pressure on inflation stems not from excess demand, which it can manage, but from supply interruptions caused by the RussiaUkraine war and the pandemic.

Federal funds futures traders predict that the Fed will increase rates from their current range by year’s end and then start to reduce them in the second half of 2023.