The Fed Rate Decision is a Key Event to Watch in the Financial Markets

The Federal Reserve's interest rate decision is often a key event to watch in the financial markets. It's a decision that affects stocks, bonds and other types of debts as well as consumer and business spending and inflation.

It's a balancing act between ensuring that the economy can grow and preventing it from overheating. It's also a tool the Fed uses to achieve its dual mandate to keep prices stable and maximize employment.

The Fed's monetary policy works by raising and cutting the Federal funds rate, which controls overnight lending rates. It sets this rate on eight fixed dates each year and the change takes effect the day after the announcement.

When the Fed raises the fed fund rate, it aims to control inflation and ensure that the economy can grow at a healthy pace. It tries to do this by raising the fed fund rate when it thinks it needs to increase interest rates to tame high inflation and lower prices and by cutting the fed fund rate when it believes it needs to decrease interest rates to boost growth.

Historically, Fed hikes work by working with a lag--it takes time for the economy to adjust to higher borrowing costs.

That's why the Fed is a bit more careful about when and how much to raise rates. It's afraid of going too far and causing a crash that would depress the economy.

If the economy grows at a faster rate than expected, that could make it easier for the Fed to raise rates even more than it has in recent years.

However, if the economy slows down, the Fed might want to cut rates to a more normal level to avoid the risk of overheating and damaging the economy.

The Fed can also use its balance sheet to reduce borrowing costs if it believes that doing so will help the economy. It's done this twice in the past two decades, once in the late 1990s and then again in 2008.

It's a bit of a gamble to decide whether the Fed will start reducing its massive bond holdings early this year, as some officials have suggested it might. It also depends on how the economy develops this year and how quickly inflation picks up, particularly as Russia's military invasion of Ukraine has boosted energy prices.

As the Fed continues to fight inflation, it is likely to continue to raise rates through the rest of this year and into 2023. But markets are concerned that a weak economy, subdued inflation or other factors might convince the Fed to cut rates in December or later.

Inflation is running a bit too high for the Fed to handle, so Powell said the central bank will likely have to do more to bring it down. But he also signaled that if inflation were to fall as expected, the Fed might not need to hike as much in the future, though it would probably pause short of the 5% to 5.25% target range officials have forecast.