Fed shrugs at inflation, holds rates steady
Shrugging off a jump in inflation, the Federal Reserve signaled on Wednesday that it will continue its ultra-cheap money policy until sometime in mid-2015, when it has a rate hike penciled in.
In a statement at the end of its two-day policy meeting Wednesday, the Federal Open Market Committee indicated no change in its previous guidance that it will hold short-term interest rates at their near-zero levels for about another year, to support a still-recovering economy.
Economic activity has rebounded since the last meeting in April, the rate-setting committee's statement said. However, ''unemployment remains elevated, and broader-level indicators ... suggest that unemployment in the labor market remains significant," Fed Chair Janet Yellen said in a pres conference following the meeting.
The federal funds rate, the central bank's main tool for controlling the cost of money, has remained at a target range between 0 percent and 0.25 percent since late in 2008. Variable credit card interest rates are closely tied to the short-term rate, making the timing of interest rate hikes a money issue for people who carry a balance. When the Fed eventually decides to lift rates a quarter of a percentage point, banks will almost certainly raise their prime lending rate accordingly, triggering a quarter-point increase in variable credit card APRs.
For now, the economy remains slack enough to continue absorbing stimulus without overheating, the Fed indicated. In projections released Wednesday, the rate-setting body laid out its plans, with 12 of the 16 participants saying that rate increases should come sometime next year.
Committee members' projections for 2015 rate hikes were slightly more aggressive than their previous projections in March. Seven participants now expect the federal funds rate will be greater than 1 percent by the end of next year, up from 5 members in March, according to projections released after the meeting.
The committee expects unemployment to improve to a range of 6.0 to 6.1 percent by the fourth quarter of the year, slightly better than the March prediction. For 2015, the committee's consensus projection is for unemployment rates somewhere between 5.4 percent and 5.7 percent by the fourth quarter.
As for economic growth, the committee predicted Gross Domestic Product this year will grow 2.1 percent to 2.3 percent, down sharply from the previous 2.8 percent to 3.0 percent prediction, following the first quarter's contraction in the economy. The view for 2015 was unchanged, with GDP growth between 3.0 percent and 3.2 percent.
The Fed continued to taper its purchases of longer-term bonds, gradually slowing its special support for low mortgage rates. The FOMC announced it will cut another $10 billion a month from its purchases of longer-term Treasury bonds and mortgage-backed securities. The move, reducing monthly purchases to $35 billion, keeps the "quantitative easing" program on track to end in October or December of this year, analysts said.
"Right now the Fed wants to be predictable," said Robert Dye, chief economist at Comerica Bank. "They've given financial markets every indication they'll continue the tapering process in a stable, predictable way."
The June FOMC meeting came after a higher reading on inflation and renewed fears that conflict in Iraq could drive prices up further by squeezing oil supplies. The Commerce Department reported Tuesday that the Consumer Price Index is up 2.1 percent for the year that ended in May. It was the fastest year-over-year rise in more than a year, analysts said, but was not enough to deflect the Fed's monetary course.
"It's yet another straw on the back of the inflation camel," Dye said. The FOMC has set 2 percent annual inflation as its long-run target level for a healthy level of economic activity. However, the Fed tracks inflation by the Personal Consumption Expenditures Index, which looks at a more flexible basket of goods than the CPI. The PCE is showing inflation of about 1.5 percent, and is not expected to hit 2 percent until early next year, economists at TD Economics said in a commentary.
Yellen said that inflation numbers are volatile, but core price trends remain on track with the Fed's projections. "I think recent readings on, for example, the Consumer Price Index, have been a bit on the high side, but I think the data we're seeing is noisy," she said. "Broadly speaking, inflation is evolving in line with the committee's expectations.''
Minutes of prior meetings show that the Fed is debating whether its low-rate policy will reignite inflation without doing much to put the unemployed back to work, Dye said. The key will be to see whether wages, which have risen only modestly, will perk up more strongly, potentially fueling broad, recurring price increases. May's 6.3 percent unemployment rate includes a stubbornly high number of long-term unemployed, with 3.4 million people having been out of work for 27 weeks or longer. The number of discouraged workers, 697,000, was about the same in May as a year ago, the Labor Department said.
Housing prices also helped lift the inflation reading, adding to evidence that bubble-hit homes are recovering. On Tuesday the government reported that new home construction jumped 9.4 percent for May compared to May 2013.
"We know home prices and rents are going up," Dye said. "There are a lot of embers to the inflation story, not that we see a fire just yet."
The committee headed by Fed chair Janet Yellen included new voting members, following Lael Brainard's confirmation to a seat on the Fed board of governors and Stanley Fischer's confirmation as vice chairman. Brainard is a former MIT economist and Treasury Department undersecretary, while Fischer, also a former MIT professor, was governor of the Bank of Israel. In addition, the incoming president of the Federal Reserve Bank of Cleveland, Loretta Mester, replaced Sandra Pianalto as a voting member of the FOMC. The voting members of the FOMC are made up of the seven-member board of governors; the president of the New York Fed; plus four other regional Fed bank presidents who serve on a rotating basis.See related: Fed takes poor GDP in stride, leaves interest rate outlook unchanged
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