Fed Raises Rates Amid Supply Shock, Hopes for Lower Spending

The Federal Reserve's decision to raise interest rates despite an ongoing supply shock has left investors questioning their strategy. According to Bank of America, the Fed was able to hike rates due to a 'booming' nominal U.S. economy.

Economists typically caution against raising interest rates during a supply shock, as it can exacerbate pain in an already weakening real economy. However, BofA Global Research noted that real economic growth in the United States has remained stable despite accelerating inflation.

The report highlights the 'Magic 5%' threshold, where core Personal Consumption Expenditures (PCE) inflation consistently overshoots the central bank's 2% target whenever nominal spending runs above 5%. Currently, nominal consumer spending is expanding at a year-over-year rate of 6.3%, which is above this threshold.

The Fed has little choice but to exert restraint on nominal demand, given that current spending figures are elevated despite slower population growth. In fact, Bank of America raised its third-quarter 2026 U.S. GDP tracking estimate by four-tenths of a percentage point to 3.0% annualized.