We're constantly bombarded with economic news, aren't we? Inflation figures, unemployment rates, GDP growth—these measures all present a very rosy picture of the economy. This never-ending flow of data points is meant to give us a picture of our environment’s proverbial pulse. What does it all actually mean for us, the people who are just out here trying to survive? Lately, the big question mark hangs over interest rates: should they go up, stay put, or even go down? Cutting taxes might seem like an attractive option, a swift cure for all of our fiscal ills. I do think that a modest, phased-in increase would signal confidence and show that we’re headed in the right direction.
Think of it like this: a slowly rising tide lifts all boats. A move up on the front end, well calibrated and managed, should be seen as a vote of confidence in the economy’s still-fundamental health. That’s a sign that the Federal Reserve is confident about the strength of the economy. They believe it’s well positioned to weather the impacts of higher borrowing costs. This, in turn, can further increase investor confidence and attract even more investment, leading to a virtuous cycle of growth.
The first and most important of these benefits is the positive effect of a gradual rate increase on inflation. All of us have experienced the pain of higher prices at our local grocery store and when we fill up our tanks. Higher interest rates increase the cost of borrowing and spending, calming demand and reducing upward inflation pressures. This is particularly important at this time, when inflation and other pressures are forcing many families to make difficult decisions about the cost of living. That’s a sign that the US consumer is spending again, recent data indicates. This increase is not from a wish for greater volumes of imported goods, it’s from the necessity to adjust to inflation. Taming rampant, creationary inflation would offer loads of other relief, too.
Besides helping to rein in inflation, a modest rate increase would be a boon for savers, especially those approaching or already enjoying retirement. For nearly a decade, they have had to suffer through meager interest rates on their savings accounts and treasury bonds. Higher interest rates would be a real boon to their meager means, giving them a little more peace of mind in their golden years. This is especially true for older Americans who depend on their retirement savings to cover basic needs.
To be fair, there are serious concerns about raising interest rates, and those concerns shouldn’t be cavalierly brushed aside. Borrowers have major worries from this, most notably borrowers with variable-rate debt. That includes people with credit cards as well as adjustable-rate mortgages (ARMs). As interest rates rise, their monthly payments increase, potentially squeezing their budgets and forcing them to cut back on other spending. This is a very good argument, and the Fed should be cautious about the fallout it might cause to the most vulnerable households.
Others contend that these rate increases won’t actually solve inflation. This is doubly true when inflation is caused by supply chain shocks or energy shocks. If the price of oil spikes due to geopolitical tensions, for example, raising interest rates won't magically increase oil production. In these cases, specific and targeted solutions are warranted, not a broad, blunt, sledgehammer of interest rate policy.
It’s important to recall too that the impact of interest rate increases doesn’t instantly wash through the economy. The Fed’s actions today will likely not be felt in full for a few months or even a year. The lag effect is enormous. It encourages the Fed to remain forward-looking and avoid an overreaction to short-term data noise.
Others think providing stimulus through interest rate cuts is the key. They specifically hope it will raise confidence among American households that inflation is going to continue to fall. After all, lower borrowing costs are quite irresistible, if for no other reason than making life easier for homebuyers and budding entrepreneurs. What’s the catch? Despite the multiple upsides, this strategy is not without risks. We know artificially low interest rates create asset bubbles, lead to over-borrowing, and 99 times out of 100 create severe financial instability.
When looking through the lens of history, we can find examples of successful and not-so-successful rate hike cycles. The Fed recognized that in its tightening cycles in the mid-1990s and mid-2000s, both of which did a good job of reining in inflation. They did all of this without crashing the economy. Supporters of the Fed’s late 1970s and early 1980s rate hikes point to that as the moves that tamed runaway inflation. While a bold and necessary step, these actions brought on a deep recession.
The rosy picture that is today’s economic landscape is made darker by the likes of global trade war and upcoming tariffs. As Goldman Sachs notes, the downside risks to growth from tariffs are now bigger than they’ve ever been. In fact, they are now “far more severe” than they were only several years ago. Together, these external factors constitute a new layer of uncertainty to an already opaque decision-making process at the Fed.
At the end of the day, raising interest rates is a tough decision with difficult trade-offs and no clear right or wrong answer. There are compelling arguments on both sides, and the Fed should be cautious about netting the potential benefits against the potential risks. In the current climate, I think that a step-by-step, widely publicized rate-hike policy can provide an effective early signal. It would signal that the economy is strong and that we are taking smart, proactive steps to ensure long-term stability. It's not about slamming the brakes on growth, but about calibrating our speed, ensuring we don't veer off course. It is not just about addressing the crises of today—it is about building a safer future for all.
