As Expected, Federal Reserve Raises Interest Rates For Second Time In Ten Years
The Federal Reserve Board raised interest rates for only the second time in a decade, but it still seems like it's chasing an inflation monster that doesn't exist.
Keeping with expectations, the Federal Reserve Board concluded its final Open Market Committee meeting of the year with an announcement that it was raising a key borrowing rate for the first time in a year:
WASHINGTON — Citing the steady growth of the American economy, the Federal Reserve said Wednesday that it would increase its benchmark interest rate for just the second time since the 2008 financial crisis.
The widely expected decision moves the Fed’s benchmark rate to a range between 0.5 percent and 0.75 percent, still a very low level by historical standards.
In announcing the decision, which followed a two-day meeting of the Fed’s policy-making committee, the central bank gave little indication that the election of Donald J. Trump has altered its economic outlook. The Fed said it still expected a slow economic expansion, and it still expected to continue a slow march toward higher rates. Fed officials said they expected to raise rates three times in 2017.
The Fed’s statement Wednesday said “that the labor market has continued to strengthen and that economic activity has been expanding at a moderate pace since midyear.”
The decision was taken by a unanimous vote of the 10 members of the Federal Open Market Committee, the first time in recent months the Fed has acted by consensus. The Fed is holding rates at low levels to support economic growth by encouraging borrowing and risk-taking. The committee’s statement said it judged that the economy still needed help.
The Fed’s economic outlook was essentially unchanged from the last round of forecasts in September. Fed officials continued to predict the economy would expand at an annual rate of about 2 percent for the next few years. They expect little further decline in the unemployment rate, which stood at 4.6 percent in November. Inflation, meanwhile, is expected to reach 2 percent — the pace the Fed regards as healthy — and then stay there.
It is a Goldilocks forecast. Not too hot, not too cold — just right.
Fed officials predicted they would raise the Fed’s benchmark rate a little more quickly in the coming years, reaching 2.1 percent by the end of 2018. In September they had predicted that it would reach 1.9 percent by the end of 2018. The new projections, however, still reflected a significantly slower pace of increase than Fed officials predicted last December, when they expected the benchmark rate to reach 3.3 percent by the end of 2018.
The combination of steady growth and faster rate increases implies that Fed officials expect to offset a modest increase in fiscal stimulus.
The November elections have complicated the Fed’s outlook. Republicans will control the White House and both chambers of Congress next year, setting the stage for significant changes in fiscal policy after years of gridlock.
Mr. Trump has promised to increase economic growth through measures like tax cuts and infrastructure spending.
The Fed has said that it expected to slowly increase its benchmark rate so long as the economy continues its own slow-and-steady expansion. If Republicans succeed in invigorating economic growth, however, the Fed is likely to raise rates more quickly. The greater the stimulus, the faster interest rates are likely to rise.
“Your expectation should depend very little on what you think that the F.O.M.C. is thinking and very much on your view of Trump policies and their macro effects,” said Jon Faust, an economist at Johns Hopkins University and a former adviser to Janet L. Yellen, the Fed chairwoman. “Don’t focus on the Fed. As James Carville regularly reminded the other Clinton on the campaign trail: It’s the economy, stupid.”
The economy, for now, keeps plodding along. Steady job growth has reduced the unemployment rate to 4.6 percent, a level the Fed considers healthy. A little unemployment is natural as people move among jobs and businesses open and close. Several Fed districts reported emerging labor shortages in the central bank’s latest compilation of economic reports, published in November. In the Philadelphia district, construction workers are hard to find. Atlanta reported a shortage of nurses; Kansas City, truck drivers; in Dallas, tech workers.
Ms. Yellen and other Fed officials have said they see some signs of stronger wage growth. Inflation, too, has picked up a little in recent months. Yet both wages and inflation continue to rise more slowly than the Fed wants.
As was the case a year ago when the Fed last raised interest rates, this move was not at all surprising. Board members had been telegraphing this move in public remarks for the past several months, for example, as had the Board itself in the statements it released after each of it meetings over the past eleven months. In fact, when the first interest rate hikes in a decade were announced last December, the Fed made it clear that their intention was to raise interest rates on a quarterly basis throughout 2016 and then reevaluate its position the following December. As it turned out, though, no such action was taken largely because the economic data released over the course of this year showed that the economy was far less vibrant than the Fed projected it would be a year ago and the obvious concern was the raising rates under those circumstances would only serve to further slow growth to the point where we could tip over into a slight recession under the wrong the wrong circumstances. Fortunately, that didn’t happen but, at the same time it can’t be said that the economy was exactly in excellent shape over the course of the past year. Economic growth remains at a relatively stagnant rate compared to other post-recession periods that we’ve experienced since the end of World War Two, for example, and jobs growth, while positive, has not exactly been stellar.
Given all of this, one has to wonder, as I have in the past as we’ve come to one of these FOMC meetings and await an announcement on interest rates, that the Federal Reserve is being just a bit premature in raising rates. There is, after all, little evidence that inflation, the problem that plagued the economic for a decade until Paul Volcker’s Federal Reserve used drastic cutbacks in the money supply to slow down the rate of inflation until it was finally tamed, is anywhere near being a problem either in the next year or the foreseeable future. Additionally, if we do suddenly start getting signs of inflation, then the Fed will be free to act quickly enough to likely fend off a return of higher inflation. The counter-argument to this is that waiting until we actually see inflation to act could cause the Fed to have to raise rates so quickly that they push the economy into recession, but it strikes me that this is counter-intuitive. If we start seeing increased signs of inflation, the odds are that it would be accompanied by increased economic growth such that we would be able to absorb the shock of increased rates over a shorter period of time. As things stand, the Fed seems to be deciding that the economy is already growing too fast, something that would surprise many Americans:
“Apparently Fed officials think the economy is growing too quickly,” said Ady Barkan, the director of Fed Up, a coalition of liberal groups that is pressing the Fed to continue its stimulus campaign. “I doubt you can find many other Americans who share that opinion. And it’s a strange conclusion to draw in the wake of an election that was so heavily impacted by voters’ economic discontent.”
This is indeed the case and it will be interesting to see if the Fed does indeed go forward with its plan for future interest rate hikes, or if we will see a repeat of the past year with economic data causing the Board members to hold back from an action that seems premature to say the least.