Fed: Rates to remain at record lows until unemployment improves
about refinancing your home or buying a new car in 2013? Good news: interest rates will be on your side. The Federal Reserve announced Wednesday that it will
continue to keep the federal funds rate target near zero -- and is unlikely to
raise the federal funds rate until the unemployment rate is below 6.5 percent.
That means interest
rates on everything from mortgages to automobiles will likely remain at record
lows for some time. The unemployment rate just barely slipped below 8 percent for the first time since 2009 in October, and experts say that the most recent drop in the unemployment rate is partially due to so many people dropping out of the labor force. If those consumers decide that the economy has improved enough to start looking for a job again, the unemployment rate -- which is currently at 7.9 percent -- could rise.
"Information received since the Federal Open Market Committee met in
October suggests that economic activity and employment have continued to
expand at a moderate pace in recent months, apart from weather-related
disruptions," said the Fed in a post-meeting statement. "Although the unemployment rate has declined somewhat since
the summer, it remains elevated. Household spending has continued to
advance, and the housing sector has shown further signs of improvement,
but growth in business fixed investment has slowed."
The Federal Reserve is basically trying to do everything it can to get this economy back to recovery. [But] with this type of economy, with this type of sluggishness, the effectiveness of their tools is somewhat limited.
Maxwell School of Citizenship and Public Affairs
In light of the of the
weak economic data and stable outlook for inflation, members of the Federal
Reserve Open Market Committee (FOMC) voted to keep the federal funds rate target
-- which helps set the rate at which banks trade balances held at the Federal
Reserve -- at 0 percent to 0.25 percent.
Moody's Analytics projects that unemployment would reach the 6.5 percent
threshold about the first quarter of 2015, or about the same timeframe
as the Fed had previously set for maintaining a period of exceptionally
low interest rates. But linking rate policy to unemployment, instead of a
date on the calendar, gives the Fed more flexibility to respond to
conditions, Moody's economic research director Marisa DiNatale said.
The Fed hopes that keeping rates at record lows for the foreseeable future will inspire more consumers to buy a new home, refinance their
existing mortgage or borrow cash to buy a new car, say experts. The Fed is also
trying to encourage more businesses to invest in supplies -- or hire new
workers -- by making loans more affordable than
The Fed's monetary
policy has even made credit cards slightly cheaper to borrow with, thanks to a
record low prime rate that's tied to the federal funds rate. The majority of
credit cards in the U.S., as well as other variable rate loans, such as car
loans, are tied to the U.S. prime rate, which is typically 3 percentage points
above the federal funds rate. When the Fed raises or lowers the federal funds
rate target, borrowers' interest rates usually go up or down as well.
The Fed's success with spurring
more people to borrow, however, has been mixed, say experts.
"The Federal Reserve is
basically trying to do everything it can to get this economy back to recovery,"
says Don Dutkowsky, a professor of economics at the Maxwell School of Public
Affairs at Syracuse University. But "with this type of economy, with this type
of sluggishness, the effectiveness of their tools is somewhat limited."
latest round of bond-buying, which the Fed also voted to extend Wednesday, may spur
a boost in confidence in some by signaling to investors, businesses and perhaps
even consumers that at least something is being done to encourage economic
growth, says Dutkowsky. That, in turn, could have a positive effect on the U.S. economy
at a time when policymakers appear to have little appetite for spending
government funds on additional economic stimulus, he says.
Small businesses need customers, not credit.
"Somebody is monitoring
the economy," says Dutkowsky. "Somebody is concerned about the high unemployment
rate and the sluggish growth and has put that in the priority of policymaking."
That's a big improvement
from the U.S. legislature, he says, which is still stuck in a contentious fight
over what to do about the country's budget deficit and about how best to avert
the so-called fiscal cliff, an automatic series of spending cuts and tax hikes
scheduled for Jan. 1.
"The government seems to be stuck on the fiscal
cliff," says Dutkowsky. "It doesn't seem they have talked much about how to
remedy the economy and get this unemployment rate down to where it needs to be."
Fed continues to face steep economic challenges
expect that the Fed will continue to make boosting the economy with record low
rates a top priority in 2013.
Already it has kept the
federal funds rate target at rock-bottom since 2008. However, forces outside
the Fed's control, such as consumers' and small businesses' weak appetite for
credit has made it tough for the Fed's policies to make much of an impact.
For example, the growth
in consumer borrowing over the past four years has largely been powered by an
explosion in student loan debt, says Rebel Cole, a professor of finance at
DePaul University. Credit card debt has increased somewhat, but not by much,
according to data from the Federal Reserve.
Meanwhile, the number
of people buying new homes and automobiles has improved, but not at the rate
the economy needs to spur more robust growth. Even consumer spending, which
improved substantially over the summer before dipping somewhat in the fall, is
not strong enough to push the economy out of the trough it's been in since
2008, say experts.
"Small businesses need customers, not credit," says DePaul University's
Cole. Businesses aren't borrowing because they don't have a regular customer
base they can count on, he says.
Many small businesses are also waiting to hire new workers until after they
have more certainty about what their taxes will be like after the first of the
year, he says.
"Uncertainty about the much-discussed tax overhaul
has indeed created a great deal of uncertainty that has impacted capital investment
and hiring decisions," says Cole, referring to discussions about the "fiscal cliff."
"Small business owners have no idea what their tax
rates will be in coming years, except higher," says Cole. "More importantly,
they have no idea what is going to happen to capital gains, which are scheduled
to go up, and potentially could go back to the same as ordinary income ... This
could have a major adverse impact on investment, especially in real estate. Add
in the uncertainty about the thousands of targeted tax credits, all of which
are on the table, and you have a prescription for procrastination until 2014,"
Consumers, meanwhile, are facing a tough lending
environment, says Cole, that makes it difficult to secure a loan, even if they
With mortgage rates at historic lows, "many people
would be buying, refinancing or buying if they could qualify for a mortgage,"
However, many lenders are keeping their lending
standards tight, he says, and are reserving the best mortgage rates for
consumers with pristine credit.
So for many customers, "even if they get approved,
they're not going to get approved for something like a 3 percent mortgage. They're
going to get approved for a 6 percent mortgage."
See related: Credit card balances fall again in October
Published: December 12, 2012
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