In the FRB/US model, the usual policy instrument--the federal funds rate--plays no direct role in the economy.12 Rather, an increase in the federal funds rate affects expectations of future values of that rate, which in turn affect interest rates on longer-term bonds, equity prices, and the exchange value of the U.S. dollar.13 Households and firms are forward looking in that the adjustment costs just mentioned oblige households to set out a plan--a contingency plan--for consumption, savings, and employment for the future.
Increases in interest rates influence these plans, as they do the investment and hiring plans of firms. All of those decisions, in turn, shape employment, output, and inflation.