At the May Federal Reserve meeting, Chairman Greenspan and crew chose to hike the Federal Fund Rate 50 basis points in May to its highest level in nine years. As the newswires were reporting the widely expected move, forecasts of additional increases in rates to slow the economy were being predicted for the June and August meetings. Let's examine for a moment the purpose of the Fed's actions and the likely outcome. The Fed's job is to promote sustained economic growth of the U.S. economy without substantial inflation. As Chairman, Mr. Greenspan has taken a preemptive approach to inflation fighting by not waiting for inflation to show up in the Consumer Price Index prior to tightening actions.
Inflation brings higher prices, lower real wage gains and yes, higher interest rates.
It is generally thought that it takes around 6 months for a move in rates by the Fed to show up as a slowing in the economy. This latest rise is the 5th move by the Fed since June of 1999. Well there are three possible scenarios. First, the optimal result is an economy that slows but doesn't crash. Second, the economy could continue its acceleration prompting the Fed to continue to raise the cost of capital.