As was widely expected the Federal Open Market Committee, of the Federal Reserve Board, raised interest rates Wednesday by 0.25 percent point. The move was praised by many, especially as an indication that the U.S. economy was growing, but it also “insisted that the pace of increases will be gradual and dependent on the quality of economic data,” reported CNBC.
Fed Chair Janet Yellen said that the economy “has come a long way,” and also that, “This action marks the end of an extraordinary seven-year period during which the federal funds rate was held near zero to support the recovery of the economy from the worst financial crisis and recession since the Great Depression.”
The vote by the Committee was unanimous and a seemingly joyful Yellen also noted that after months of speculation, “It also recognizes the considerable progress that has been made toward restoring jobs, raising incomes and easing the economic hardship of millions of Americans.”
This caution is a hallmark of Yellen, in comparison with her recent predecessors, but it also reflects a reality that the Board needs to avoid hindering economic growth. Despite this caution, the increase also confirms “the considerable progress that has been made toward restoring jobs, raising incomes and easing the economic hardship of millions of Americans,” Yellen continued. For those that are speculating, on her mood, and that of the FOMC, she also noted that “it reflects the committee’s confidence that the economy will continue to strengthen.”
Michael Wenz, associate professor, and coordinator, in economics at Northeastern Illinois University in Chicago said in an interview that, “It’s clear that the Fed would like to start raising rates while there are still some tailwinds in the economy. There is no traditional reason otherwise to make a move with inflation still hovering below 2% and I think a general agreement that the risks of under-shooting on the employment target are much greater than the risks of overshooting on the inflation target.”
The immediate effect on consumers will be minimal with most of the impact on consumer and business loans, and far less on long-term debt such as home mortgages.
While some economic observers are saying that the move, with its historic low rates, is largely symbolic, Wenz says that “Raising rates now, however, will give the Fed a chance to test their new rate management tools in a benign environment rather than in a crisis. The last time the Fed raised rates, they could simply target the Fed Funds rate and intervene with traditional open market operations. Of course, the last time they raised rates, banks had $25 billion in excess reserves. Now it’s closer to $2.5 trillion.”
The Los Angeles Times reported that “a majority of the 17 members of the committee expect the rate to rise to at least 1.375% at the end of 2016, according to projections released Wednesday. That would still be low by historical standards.”
In consideration of the anticipated incremental rates, all expected to be low, utilizing six month intervals for continued increased adjustments, the stage is also set for action on the market side, a move that Wenz identifies when he notes, “Now, we have a situation where the Fed will try and bracket the Fed Funds rates with interest paid on bank deposits at the Fed on the high side, and intervention in the reverse repo market on the low side. If you want to know how things are going, watch what happens in the reverse repo market when the market on Thursday, and especially Thursday afternoon when the results of the auction are announced.”
While there are some valleys in the economic landscape, lower labor participation, uneven growth, and wages that are only inching up, and far from their pre-recession levels, Yellen emphasized, that, “while things may be uneven across regions of the country and different industrial sectors, we see an economy that is on a path of sustainable improvement.”
There were some naysayers, among them Jim O’Sullivan, of High Frequency Economics who gave calibrated praise: “In the end, the pace [of future rate increases] will be determined by the data and financial markets developments. We remain skeptical that the pace will be as gradual as is being suggested, mainly because we expect the unemployment rate to keep falling, eventually leading to more upward pressure on inflation. For now, though, it makes sense for officials to be as reassuring for markets as they can without compromising their flexibility later.”
While Wednesday’s move was anticipated, some who considered the sluggish European markets, felt that patience by the Fed, would be rewarded. Still others wondered, if in choosing this focus, the FOMC miscalculated. Taking that tack further, some like the editors at The New York Times wondered, if restricting money might slow hiring and wage growth. In December, Yellen countered her critics with the following statement: “We need to be looking at underlying trends in the data and not over-weighting any number.”