Fed Expected to Keep Raising Interest Rates

Economic analysts believe the Federal Reserve Board will raise interest rates another quarter point today and will continue to do so for some time, in response to moderate growth in the economy.

Fed Expected to Raise Interest Rates (AP)

The Federal Reserve, responding to solid growth in the economy after a brief slowdown early in the year, is expected to keep raising interest rates. The Fed’s credit tightening campaign will keep mortgage rates and other consumer interest rates rising as well but at a pace that should slow only modestly the nation’s booming housing market, private economists believe.

Federal Reserve Chairman Alan Greenspan and his colleagues are meeting Tuesday to discuss what to do with interest rates. There was a widespread expectation that the Fed will raise interest rates by a quarter-point. That would be the 10th consecutive increase in the Fed’s target for the federal funds rate, the interest that banks charge each other.

The move would push the rate to 3.5 percent, the highest level since August 2001 and more than triple the 46-year low of 1 percent that was in effect before the Fed started raising rates in June 2004.

Although economists once expected the Fed to pause for awhile in its rate hikes, many now believe the central bank will keep pushing rates higher at each of the remaining three meetings this year, leaving the funds rate at 4.25 percent by year’s end. “I think it will be steady as she goes, a quarter-point at each meeting,” said David Wyss, chief economist at Standard & Poor’s in New York.

The reason for the change of opinion has been an economy that is showing new vigor after a slowdown in the early spring. Overall economic growth, as measured by the gross domestic product, came in at a solid 3.4 percent rate in the April-June quarter, and many analysts believe it is growing at an even faster pace in the current quarter.

Considering the devasting impact this will have on those with adjustable rate mortgages, those trying to buy or sell homes, one would think the Fed would have a compelling reason for continuing to jack the rates up. If they do, it would be great if they would share it with the rest of us.

The best I can figure is that, as many senior military and foreign policy leaders are still haunted by the spectre of Vietnam, many senior economists are still fixated on the runaway inflation of the 1970s. Certainly, the Fed’s tight monetary policy since then, under Paul Volker and then Alan Greenspan, has helped wring inflation out of the economy. But the economy has been stagnant or moderate since the bursting of the stock market bubble in the late 1990s. Inflation, outside of the volatile energy secter, is virtually non-existent. Making the economy swim upstream, and making home ownership more difficult for millions of Americans, seems an awfully high price to pay “just in case” inflation comes back.

FILED UNDER: General
James Joyner
About James Joyner
James Joyner is Professor and Department Head of Security Studies at Marine Corps University's Command and Staff College and a nonresident senior fellow at the Scowcroft Center for Strategy and Security at the Atlantic Council. He's a former Army officer and Desert Storm vet. Views expressed here are his own. Follow James on Twitter @DrJJoyner.

Comments

  1. Meezer says:

    As someone newly married in those delightful days, I can somewhat understand the worries. If you have not lived with a 16% rate it is hard to imagine. Comedians tried to do skits about prices going up at the grocery store every week, but they weren’t funny: it was really happening.

    I’m not saying that it will happen again if the rates are not raised today, just that some of us are still twitchy at the sound of the word ‘inflation.’

  2. “But the economy has been stagnant or moderate since the bursting of the stock market bubble in the late 1990s.”

    WTFITS?

    “Stagnant to Moderate”???

    What economic indicators are you looking at? Exactly what are yo comparing the US economy to? Where in the world is there a better economy right now? Where is the standard of living even close to as high as we have it while unemployment is close to as low and GDP growth is close to as high?

    Incomes/salaries are up, unemployment is down, corporate profits are up, asset values are way up (especially home prices), consumer spending is on a tear, investment is up, employment is strongly positive….

    Dr. J, your analysis is usually better than this. Please explain your statement. Because it looks to me like you are just regurgitating DNC/AFL-CIO talking points.

  3. James Joyner says:

    SWS,

    I’m arguing relative to an economy where runaway inflation appears to be looming, requiring massive intervention by the Fed. That Americans are richer than Europeans in comparatively socialistic economies or their generational forebearers is true but irrelevant to that analysis.

    I don’t think anyone disagrees, either, that the rate of growth over the last several years has been less than that of the tech boom. That’s not a partisan analysis–the reasons have virtually nothing to do with politics but with independent market forces–simply reality.

    It’s true that the Fed rate was historically low and that interest rates are still quite good by historic measures. Still, there’s no reason that I can see to raise rates simply because the economy no longer “needs” the pump primed.

    Cheap mortgage rates, especially, is one of the main reasons the economy is as good as it is in terms of true wealth. I’m getting ready to sell a house and to make a rather tidy profit from my investment, which I’ll reinvest into another house as well as the stock market. That’s a good thing for the economy–both at my micro-micro level and at the societal macro level.

  4. DL says:

    “…making home ownership more difficult…”? From whence comes the real estate “bubble” that “threatens” our very existence?

  5. Cameron Hill says:

    Supposedly over a hundred thousand people took jobs in Florida to do Hurricane clean up. That is temporary and a big part of the optimistic (job growth data). My question would be If a person from Mexico comes to the U.S. and takes a job is that a new job? I would also ask If housing is more UN-affordable is that a sign of good times? Every case of runaway inflation was rooted in our investments being founded on air. Nothing is worth more than you can get for it and if the dollar is not worth much that is inflation.

    Cameron Hill

  6. McGehee says:

    I don’t think anyone disagrees, either, that the rate of growth over the last several years has been less than that of the tech boom.

    Would that be the boom in which — as Cameron put it — many of “our investments [were] founded on air”? Is that really a valid point of comparison for the sustainable health of our present economy?

  7. M1EK says:

    The reason to keep pushing rates higher is that the Fed knows darn well that housing (mainly, people using home equity to pay their bills) is a huge bubble, and it’s better to let the air out gradually than let it crash.

    If real estate crashes like internet stocks did, there’s nothing left to pick up the pieces this time. As painful as it is to the (idiots) who have ARMs, there’s little choice.

  8. JJ,

    I am not disagreeing that inflation is low. It is low. There will soon come a point at which the Fed should stop raising rates. Indeed, we may already be at that point. I am not sure.

    I am only disagreeing with your assessment of economic growth “stagnant or moderate since the bursting of the stock market bubble in the late 1990s.”

    True, growth has been slower than the unsustainable rates achieved during the later years of the tech boom. But that was indeed unsustainable. Stock valuations oupaced projected cash flows. Unemployment became too low to allow further noninflationary growth. Bad people were not being fired, and many good people wasted hours of every day day trading.

    The Fed is charged with maintaining maximum sustainable growth. And we’re pretty much doing exactly that… GDP growth has been about 4% for the past two years. Productivity growth is at 3.5%. Unemployment is down to about 5%.

    Check Kudlow’s economic cheerleading stats once in a while to balance out the gloomy assessments of the economy that dominate the MSM: http://lkmp.blogspot.com/2005/08/temporary-split.html

    Remember… America has some of the highest GDP/capita and productivity/capita already. So a 3 or 4 percent uptick on either is huge. 4% GDP growth is four figures of growth per person each year, almost $2k per person. That’s not modest. That’s certainly not stagnant.

    If you consider any growth rate below the tech boom to be “modest”, then your expectations are way out of whack. If we grow much faster, the economy would overheat. There has to be some graduated description between “modest” and “overheating”.

    Growth is “solid”, perhaps even “robust”. It may not be “red hot”, but it certainly isn’t “modest” or “moderate”.

    You want “moderate” growth, look to the UK. You want “stagnant”, look to France or Germany.

    Can America do better? Of course. There’s always room for improvement. But that doesn’t mean the current pace is “modest”.

    You may think I am splitting hairs. Maybe I am. But please don’t buy into the notion that current growth is anything but strong.

    FYI – I was looking for a job two years ago, again last year, and yet again this year. The economy was indeed “stagnant” in ’03, and growth was “moderate” in ’04. I found work after long and grueling searches. (I had to take matters into my own hands and do consulting last year. High-risk way to make a living, but it worked out well.) This year, job offers flowed in. Companies were desperate to hire and damn receptive… The opposite of 2003.

    I think you’ll find a lot of anecdotal evidence to support the statistics that current economic growth is indeed quite strong… And for that, we should be thankful. Constructive criticism is always welcome if it might strengthen growth further without overheating the economy into recession/inflation. But things ain’t so bad.

  9. KevinM says:

    “Inflation, outside of the volatile energy sector, is virtually non-existent.”

    “I’m getting ready to sell a house and to make a rather tidy profit from my investment”

    Sounds like there’s inflation to me.

    The Boskin Commission gutted CPI as a measure of “real” inflation back in 1996. They:
    1) abandoned the fixed-weight formula for CPI goods.
    2) Changed from arithmetic to geometric weighting
    3) introduced substitutions
    4) introduced seasonal adjustments
    5) reduced prices by quality improvements

    I don’t know precisely how far CPI understates inflation, but my guess would be by 4-5%. I know what I paid for a truck in 1993, and what I paid for one in 2003, and even allowing for quality improvements inflation was in the 5-6% range. I don’t feel autos were exceptional in this regard.

    “Unfortunately” the Fed doesn’t control long term interest rates. With the 10yr trading in the low 4s, 2 or 3 more raises will give us an inverted yield curve. Which will give us a recession to do away with that pesky housing bubble that so vexes the Fed.

  10. RA says:

    Gas is $2.30 a gallon. Adjusted for inflation it is cheaper than it was when the American hating peanut farmer was president. Europe is paying $5 a gallon. Rational people should be counting their blessings. If we start building refineries now, prices will moderate in 7-10 years. But environmental extremists will not let that happen.

    Housing cost have been through the roof in blue, high tax states forever. Jobs are leaving these states and so its getting harder to sell your house there.

    Other than that the economy is roaring especially where conservatives keep taxes low.

  11. M1EK says:

    RA,

    “If we start building refineries now, prices will moderate in 7-10 years”

    Bull. Crude oil prices have little to do with refineries, despite what people want you to believe. The only plausible link is that if we had more of a particular TYPE of refinery, we could buy more of the crappy low-grade oil which is the ONLY stuff Saudi Arabia could be pumping more of than they are right now.