March Fed Minutes: ‘Many’ Officials in Favor of a Big Rate Increase

Minutes from the Federal Reserve’s March meeting showed that central bankers were preparing to shrink their portfolio of bond holdings imminently while raising interest rates “expeditiously,” as the central bank tries to cool off the economy and rapid inflation.

Fed officials are making money more expensive to borrow and spend in a bid to slow shopping and business investment, hoping that weaker demand will help to tame prices, which are now climbing at the fastest pace in four decades.

Central bankers raised interest rates by a quarter of a percentage point in March, their first increase since 2018 — and the minutes showed that “many” officials would have preferred an even bigger rate move and were held back only by uncertainty tied to Russia’s invasion of Ukraine. Markets now expect the Fed to make half-point increases in May and possibly June, even as they begin to withdraw additional support from the economy by shrinking their balance sheet.

The balance sheet stands at nearly $9 trillion — swollen by pandemic response policies — and Fed officials plan to shrink it by allowing some of their government-backed bond holdings to expire starting as soon as May, the minutes showed. That will help to further push up interest rates, potentially leading to slower growth, more muted hiring and weaker wage increases. Eventually, the theory goes, the chain reaction should help to slow inflation. “They’re very resolute in fighting inflation and moving it lower,” said Kathy Bostjancic, chief U.S. economist at Oxford Economics. “They are concerned.”

While central bankers were hesitant to react to rapid inflation last year, hoping it would prove “transitory” and fade quickly, those expectations have been dashed. Price increases remain rapid, and officials are watching warily for signs that they might turn more permanent.

“All participants underscored the need to remain attentive to the risks of further upward pressure on inflation and longer-run inflation expectations,” the minutes showed.

Now, officials are trying to cool off the economy as it is growing quickly and the job market is rapidly improving. Employers added 431,000 jobs in March, wages are climbing swiftly, and the unemployment rate is just about matching the 50-year low that prevailed before the pandemic.

Central bankers are hoping that the strong job market will help them slow the economy without tipping it into an outright recession. That will be a challenge, given the Fed’s blunt policy tools, a reality that officials have acknowledged.

At the same time, Fed officials are worried that if they do not respond vigorously to high inflation, consumers and businesses may come to expect persistently higher prices. That could perpetuate quick price increases and make wrestling them under control even more painful.

“It is of paramount importance to get inflation down,” Lael Brainard, a Fed governor who is the nominee to be the central bank’s vice chair, said on Tuesday. “Accordingly, the committee will continue tightening monetary policy methodically through a series of interest rate increases and by starting to reduce the balance sheet at a rapid pace as soon as our May meeting.”

Ms. Brainard’s statement that balance sheet shrinking could happen “rapidly” caught markets by surprise, sending stocks lower and rates on bonds higher. Investors also focused their attention on the minutes released on Wednesday.

The notes from the March meeting provided more details about what the balance sheet process might look like. Fed officials are coalescing around a plan to slow their reinvestment of securities, the minutes showed, most likely capping the monthly shrinking at $60 billion for Treasury securities and $35 billion for mortgage-backed debt.

That would be about twice the maximum pace the Fed set when it shrank its balance sheet between 2017 and 2019, confirming the signal policymakers have been giving in recent weeks that the plan could proceed much more quickly this time around.

Officials “generally agreed that the caps could be phased in over a period of three months or modestly longer if market conditions warrant,” the minutes showed, while outright sales of mortgage-backed securities might be up for consideration “after balance sheet runoff was well underway.”

Besides confirming a relatively quick pace of balance sheet drawdown and reaffirming Ms. Brainard’s signal that balance sheet shrinking could begin imminently, the minutes showed that “many” meeting participants “would have preferred a 50 basis point increase in the target range for the federal funds rate at this meeting.”

While they held off on a bigger increase while faced with uncertainty tied to Russia’s invasion of Ukraine, officials signaled that increases above a quarter-point could be appropriate if inflation remained elevated.

And officials pointed to signs that rapid price increases could last.

“Many participants indicated that their business contacts continued to report substantial increases in wages and input prices that were being passed through into higher prices to their customers without any significant decrease in demand,” the minutes showed.

Factors that Fed officials thought could cause inflation to persist included “strong aggregate demand, significant increases in energy and commodity prices, and supply chain disruptions that were likely to require a lengthy period to resolve,” the minutes said.

In all, the discussion in the minutes showed growing nervousness about the pace and persistence of price increases.

“The overall tone of the minutes showed substantially more concern among policymakers around upside risks” to inflation and less fretting about growth, economists at Morgan Stanley wrote in reaction to the minutes.