Fed dials back rate-hike expectations
Weak economy likely to slow pace of interest rate increases
The Federal Reserve decided to hold interest rates where they are for the fourth time this year, sparing credit card borrowers from higher costs of carrying a balance.
At the end of its two-day meeting on Wednesday, the Federal Open Market Committee announced it will keep the target for the federal funds rate – its chief lever on market interest rates – at a range of 0.25 percent to 0.50 percent.
Since its last meeting in April, “Improvement in the labor market slowed,” the committee said in its policy statement. “Although the unemployment rate has declined, job gains have diminished.”
The June meeting came in the shadow of a surprisingly weak job creation report in May, raising fears the economy is cooling off – and could even return to recession.
Newly released projections show the committee is dialing back its rate expectations as the economy sends warning signals. Of 17 committee members, only two now expect more than two rate hikes this year, down from seven in March, the last time projections were released. The next meeting is July 26-27.
"Our decision reflects the committee's careful approach, particularly in light of mixed readings on the economy," Fed Chair Janet Yellen said in a press conference after the meeting.
The gradual pace of rate increases is good news for consumers with debt on their credit cards, delaying the pain of higher rates and giving them more time to pay down balances. Each quarter-point rate increase adds about $1 a month to the cost of carrying the average credit card balance of about $5,200.
Usually cards cannot raise your rate on an existing balance, but there's an exception for rising market rates. Most cards have adopted variable rates, which allows the APR on your entire balance to go up when an accepted market index rises. The index that most variable rate cards peg their rates to is the prime rate, which mirrors the ups and downs of the federal funds rate.
A slowing economy?
Economists expected the June FOMC meeting would leave rates alone after the Labor Department's disappointing report on May job creation. Although the unemployment rate improved slightly to 4.7 percent, the economy generated only 38,000 jobs – a far cry from the 160,000 that analysts had predicted. It was the lowest monthly job creation since January 2010, when the job market was still recovering from the recession.
The slowdown “is likely enough for a data-dependent Fed to remain on the sidelines,” TD Economics Senior Economist Fotios Raptis wrote in a research summary before the FOMC meeting. TD forecasts just one Fed rate hike this year, sometime in the third quarter, followed by two in 2017.
Falling activity in factories underlined the weak job growth. Output from factories, mines and utilities fell 0.4 percent in May, the Federal Reserve said Wednesday. Amid a soft global economy, “It is hard to envision a meaningful rebound in manufacturing activity over coming quarters,” Regions Bank Chief Economist Richard Moody said in a research note.
On top of the weakness in the U.S., polls in the United Kingdom indicate Britons may vote next week to leave the European Union, a possibility that is rattling financial markets. A British exit or “Brexit&Rdquo; could slow European economic growth and increase investors' uncertainty, Raptis said, raising the risks to the U.S. economy.
The Fed lifted rates in December 2015 for the first time since 2006, marking the beginning of a monetary tightening phase. The initial increase was expected to be the first in a series, as the economy continued to put the 2009 financial crisis and recession behind it.
The pace of increases has turned out to be more gradual than expected. At the time of their initial liftoff rate hike in December 2015, a majority of committee members expected four quarter-point rate hikes in 2016, and none of the members expected fewer than two. The idea is to get the federal funds rate back near long-run norms of 4 percent.
But the pace of tightening is driven by economic data, which has been less than robust. So the FOMC has scaled back rate hikes fearing that higher rates could choke off economic growth. Jobs have been a brighter spot than inflation, which is running consistently below the Fed's long-term target of 2 percent. Rising prices aren't popular, but when inflation is too low, economists see it as a sign of excess slack in the economy – such as unemployed or underemployed people. Weakness in the labor market, including 558,000 discouraged workers, supports the idea that the economy isn't yet running normally. The share of the population either working or looking for work – the labor force participation rate – is hovering around 40-year lows.
The FOMC is grappling with the idea that economic "headwinds" such as slower household formation, low productivity growth and an aging population may force changes in what's considered a neutral interest rate level for the economy to run smoothly, Yellen said. "I think all of us are engaged in determining where is that neutral rate going," she said.
See related: Coverage of previous FOMC meeting April 27
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