The Russian invasion of Ukraine and covid shutdowns in China intensified the Federal Reserve's challenge to curb inflation for officials who decided earlier this month to raise interest rates by a half a percentage point, according to minutes Wednesday from their May policy meeting.
The minutes underscore the growing difficulty of setting Fed policy against the backdrop of persistent global forces, many of which are outside the Fed's control, leading to an environment where, the path ahead is "highly uncertain," according to the minutes.
"Developments associated with Russia's invasion of Ukraine and the covid-related lockdowns in China posed heightened risks for both the United States and economies around the world," the minutes stated. "Several participants commented on the challenges that monetary policy faced in restoring price stability while also maintaining strong labor market conditions."
Policymakers, when they gathered on May 3 to 4, also noted the extent to which inflation was rapidly affecting peoples' cost of living and their ability to absorb those higher prices. The uncertainty also raised the risk that peoples' own expectations around inflation -- which can be self-fulfilling -- would become distorted and make it that much harder for officials to bring inflation down to their goals.
"Various participants remarked on the hardship caused by elevated inflation and heightened inflation uncertainty - including by eroding American families' real incomes and wealth and by making it more difficult for businesses to make production and investment plans."
High inflation could also make it more difficult for the labor market to reach full strength. The minutes noted that Fed officials expected the labor market to remain tight, and for wage pressures to stay high, "for some time."
The Fed has a dual mandate: to keep prices stable and get the economy to what's known as "full employment." And it faces challenges on both fronts. Fed Chair Jerome Powell has emphasized in recent months the need to recalibrate the labor market so that supply is more in line with demand -- namely, that the number of job openings matches the number of people looking for work. The Fed's belief is that higher interest rates will slow down the economy and, as a result, cool off demand for workers, all while more people reenter the job market.
But the Fed cannot execute that plan with precision. And they raise the risk of raising rates so aggressively that the unemployment rate goes up, people lose their jobs and the country dips into a recession.
The minutes offer a fuller picture of what Fed officials were thinking and discussing when they raised rates by half a percentage point earlier this month. The increase was the sharpest since 2000, and the second of seven expected interest rate increases this year. (The Fed's steady series of interest rate changes first kicked off in March, when officials raised rates by a more modest quarter of a percentage point.)
Fed officials are increasingly having to answer why they did not respond to inflation sooner. The Fed has long been criticized by Republicans and some economists, especially former Obama White House economic adviser Lawrence Summers, for taking too long to raise rates and cut back other economic supports.
The Fed held out for much of last year so that the labor market would have a chance to get back to full strength. But with the benefit of hindsight, it's become clear that policymakers struggled to make sense of the labor market and inflation, and that they were slowed down by litmus tests they'd set for scaling back asset purchases and raising rates.
"If you had perfect hindsight you'd go back, and it probably would have been better for us to have raised rates a little sooner," Powell said on Marketplace earlier this month. "I'm not sure how much difference it would have made, but we have to make decisions in real time, based on what we know then, and we did the best we could."
Over the past few weeks, Fed leaders have all but guaranteed that two more hikes of half a percentage point are yet to come -- once when policymakers meet in June, and another when they meet in July. Their hope is that by front-loading more aggressive rate increases now, they can catch up to inflation more quickly and opt for smaller changes later in the year.
But that will depend on whether their approach turns out to be right. Powell and others have said they need to see actual progress in cutting inflation, and won't just set rates based on what they expect could happen in the future.
"What we need to see is inflation coming down in a clear and convincing way, and we're going to keep pushing until we see that," Powell said last week during a media appearance at the Wall Street Journal Future of Everything Festival.
The covid era has made it difficult for policymakers to judge the current state of the economy. But recent government data gave policymakers hope that inflation may be slowing. Prices rose 8.3% in April compared with a year ago, and 0.3% compared with the month before. By contrast, March prices rose 8.5% compared with the previous year, and a sharper 1.2% compared with the previous month.
In another encouraging sign, the housing market is showing early but notable signs of cooling. Higher interest rates, and the expectation of more increases in 2022, have caused a quick run-up in mortgage rates that buyers, real estate agents and housing experts say is already causing some aspiring homeowners to bow out of the market.
But it's unclear whether that kind of progress will continue, or whether it will be reflected in other pockets of the economy. Taming inflation or avoiding a recession may depend on much more than Fed policy.
"There are huge events, geopolitical events going on around the world, that are going to play a very important role in the economy in the next year or so," Powell said on Marketplace. "So the question whether we can execute a soft landing or not, it may actually depend on factors that we don't control."