federal reserve

US Federal Reserve: Raises Key Interest Rate

The US Federal Reserve on Wednesday (Dec 14) raised the benchmark interest rate by a quarter percentage point as expected, citing an improving economy with one month to go before President-elect Donald Trump takes office.

The policy-setting Federal Open Market Committee voted unanimously to increase the key federal funds rate to a range of 0.5 to 0.75 per cent, but repeated that it expects the world’s biggest economy will require only “gradual” increases going forward.

Fed chair Janet Yellen said the rate hike can be seen as a “vote of confidence” in the economy.

Federal Reserve Chair Janet Yellen speaks during a press conference in Washington, DC. (SAUL LOEB/AFP)

The rate increase from the previous range of 0.25 to 0.5 per cent is the first hike since December 2015 and only the second in a decade.

The move “should certainly be understood as a reflection of the confidence we have in the progress that the economy has made and our judgment that that progress will continue,” Yellen told a press conference following the meeting.

“And the economy has proven to be remarkably resilient, so it is a vote of confidence in the economy.”

After rallying consistently and hitting multiple new records since Trump’s election on November 8, putting the Dow within striking distance of the 20,000-point mark, US stocks fell in the wake of the Fed announcement.

Yellen declined to comment on the market reaction other than to say that it could be due to expected tax cuts under a Trump administration.

TRUMP SPENDING IMPACT?

Many analysts expect the central bank will have to raise rates faster if Trump’s promised infrastructure spending and tax cuts fuels faster inflation.

Yellen agreed such policies can change decisions by central bankers, but cautioned against any premature guessing games.

“I really can’t tell you what the Fed’s response would be to any policy changes that are put into effect,” she said. “I wouldn’t want to speculate until I were more certain of the details and how they would affect the likely course of the economy.”

However, she said some Fed officials did include expectations for increased government spending in their forecasts.

In their quarterly economic projections, Fed officials anticipate three increases in 2017, putting the rate at 1.4 per cent at the end of the year. It would then rise at the close of 2018 to 2.1 per cent.

Of the 17 officials making predictions, 11 see rates of 1.375 per cent or higher next year.

Yellen repeated her recent statement that government spending on programs that increase the economy’s productive capacity would be useful, such as enhanced education, training and workforce development.

GROWTH AT ‘MODERATE’ PACE

The central bankers project inflation will not hit the 2.0 per cent target until 2018, falling just shy of the mark next year.

The FOMC statement noted that inflation indicators “still are low” relative to the target.

“In light of the current shortfall of inflation from two percent, the Committee will carefully monitor actual and expected progress toward its inflation goal,” it said.

The other key data focus for Fed policy, unemployment, is forecast to remain steady at around 4.5 per cent through 2019, from 4.6 per cent currently.

The committee has been divided this year about the timing of this second rate increase, with some worried about the potential threat of inflation if the Fed failed to act.

But the majority view had been that there was a greater risk of jeopardising the fragile US recovery by moving too soon, especially amid global uncertainties including the slowing of China’s economy and Britain’s vote to leave the European Union.

In addition, signs of inflation or wage pressures were absent from the economic data. But the FOMC notes that inflation has been kept low in part due to the decline in energy prices, which could prove to be temporary.

Yellen denied that she favors “running the economy hot” – keeping rates low for an extended period to boost inflation to the Fed’s target.

On the broader economy, the committee said growth has continued at a “moderate pace” since mid-year, accompanied by moderate increases in household spending, while the labor market “has continued to strengthen.”

However, business investment in new plants has been soft. Risks to the economic outlook “appear roughly balanced,” the committee said.

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US Fed – Fischer forsees gradual interest rate rises

Federal Reserve vice chairman Stanley Fischer on Sunday (Oct 9) predicted modest interest rate increases in the coming years, saying the US economy was nearing full employment.

“Gradual increases in the federal funds rate will likely be sufficient to get monetary policy to a neutral stance over the next few years,” he said in a speech to bankers.

US interest rates are currently between 0.25 and 0.50 per cent, as they have been since last December, and the Fed’s Open Market Committee decided not to raise them at its last meeting in September.

“Our decision was a close call, and leaving the target range for the federal funds rate unchanged did not reflect a lack of confidence in the economy,” Fischer said.

He recalled that Fed members’ median projection was for the federal funds rate to rise gradually to 1.1 per cent by the end of 2017, 1.9 per cent by the end of 2018 and 2.6 per cent to the end of 2019.

“However, as we have noted on many previous occasions, policy is not on a preset course,” Fischer said.

“The economic outlook is inherently uncertain, and our assessment of the appropriate path for the federal funds rate will change in response to changes to the economic outlook and associated risks,” he said.

On the current US economic situation, Fischer said the labour market is solid.

“I see the US economy as close to full employment, with some further improvement expected,” he said.

But he also noted that productivity continues to be a source of concern.

“Indeed, productivity declined a half percent over the most recent four quarters and has increased only about a quarter per cent per year, on average, since 2011,” he said.

“While improving labor market conditions have led to higher household incomes in recent years, the key to improved living standards over the long haul will be a revival in productivity growth – at least to more normal levels, possibly in the range of 1-1/2 per cent per annum.”

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