US central bank raises interest rates as it shifts focus toward addressing inflation

The US Federal Reserve has resumed raising interest rates, signaling a renewed focus on persistent inflation even as the economy continues to show resilience.

The Fed raised its benchmark interest rate on Wednesday by 25 basis points to a target range of 3.75 percent to 4 percent, marking its first rate increase since 2023. The move came after weeks of debate over whether policymakers needed to resume raising interest rates.

"This reflects the fragile balance in the US economy, where growth resilience coexists with inflationary pressures, making it difficult for the market to reach a consensus on the primary challenges currently facing the Fed and the corresponding policy choices," Cheng Shi, chief economist at ICBC International, said in a commentary co-authored with Zhou Ye, a macro analyst at ICBC International.

Overall, US private consumption and capital expenditure continue to support economic growth, and the risk of a rapid deterioration in the labor market has diminished. At the same time, wage growth continues to moderate, suggesting that the labor market has not returned to an overheated state, Cheng said.

Against this backdrop, Cheng said the latest rate increase was "more akin to a precautionary adjustment" designed to address the risk of persistent inflation and its spillover effects. The move also reflects a shift in the Fed's policy focus, he said, with greater attention now being paid to the risk that inflation could remain persistent and that inflation expectations could become unanchored amid continued economic and employment resilience.

Compared with the Fed's previous framework, which placed greater emphasis on managing expectations and policy communication, the central bank under Kevin Warsh's leadership may focus more heavily on actual inflation outcomes and how persistent they prove to be, Cheng said.

However, the outlook for further rate increases will depend on how inflation feeds through the economy and on developments in the labor market, he added.

Morgan Stanley said in a research report that it now expects another 50 basis points of tightening, bringing the terminal target range to 4.25 percent to 4.5 percent in the first quarter of 2027.

The Fed's median dot plot indicated one additional rate hike this year followed by a hold next year. However, eight of the 18 participants who submitted forecasts anticipated another increase next year, the report said.

"Our rates strategists think the market is now likely to price in the probability of more hikes in the short term, given Chairman Warsh's emphasis on inflation trends," Morgan Stanley said. "A pull-forward of rate hike pricing should lead investors to think more about downside risks to growth in the medium term."