Research and Statistics

Fed holds course for higher interest rates


In the first policy meeting under its new leader, the Federal Reserve affirmed that short-term interest rates will begin rising next year

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Interest rates will stay put — for now — to boost the still-recovering economy, but are likely to rise next year, the Federal Reserve signaled after its first policy meeting under new leader Janet Yellen.

As expected, the rate-setting Federal Open Market Committee voted to keep its target federal funds rate — the lever that controls variable rate credit card APRs and other short-term lending rates– at its current  level between 0 percent and 0.25 percent.

In remarks about the economy, the committee seemed to take a less optimistic view  than it did after its last meeting, in January. Since then, “economic activity slowed during the winter months,” the committee said in a statement at the conclusion of its two-day meeting March 19, “in part reflecting adverse weather conditions.”

The vote maintains the aggressive stimulus policy the Fed began under ex-chair Benjamin Bernanke, whose term ended in January.  Yellen, former vice chair at the Fed, has expressed views about the economy and interest rate policy that fit closely with his.

Yellen “has made it clear she agrees with the policy regime under Ben Bernanke, and intends to stay on that course,” said Richard Moody, chief economist at Regions Bank.

The FOMC also reinforced expectations that the exceptionally low interest rates put in place under Bernanke’s leadership at the end of 2008 will begin to rise toward more normal levels during 2015. In projections released with the announcement,  a majority of the committee said that the rate target should rise in 2015, and should gain a full percentage point or more by the end of 2016.

“Unemployment and underemployment remain significant concerns,” Yellen said in a press conference after the meeting. “By any measure, there remains substantial slack in the labor market.”

The FOMC continued to pare back, or taper, its purchases of longer-term bonds. The program of purchasing mortgage-backed bonds and Treasury securities supports low long-term rates, particularly for home mortgages. Starting in April, the Fed will buy $55 billion of the longer-term bonds per month, down $10 billion from the previous level. The move marks the third cut in purchases since the Fed started the taper in December 2013.

Unemployment rate droppped
The committee made one significant shift: It dropped a specific unemployment rate as a measuring stick it will use in deciding future rate changes. The FOMC said in previous statements that near-zero rates will remain “at least as long as the unemployment rate remains above 6.5 percent,” and longer-term inflation rates are below 2.5 percent. The March statement deleted the reference to the unemployment threshold, shifting the focus to inflation, which remains well below the stated target.

The unemployment rate, at 6.7 percent in February, is hovering close to the 6.5 percent mark. But the rate, although down significantly from its recessionary peak of 10 percent in 2009, masks weakness within the labor market, many economists argue.  Many working-age people have left the work force, helping keep the jobless rate down but signaling that work remains scarce. In addition, the number of hours worked fell in February, undercutting the economic lift from job creation.

“There is this debate going on,” Moody said. Many economists “are under the opinion that the unemployment rate is not a good measure of the true degree of labor-market slack.”

Yellen said that dropping the specific jobless number made sense as the threshold approached. The committee will continue to look at the unemployment rate in determining when to hike rates, and at other labor market measures such as part-time workers, long-term unemployment and how often people quit their jobs.

“I take a high quit rate as a sign of a healthy economy,” she said. “When workers are scared, they show a reduced willingness to quit their jobs.”

Measures of economic health have been mixed since the FOMC’s last meeting. February’s unemployment rate increased slightly, although job creation was stronger than most analysts had expected.  And the total number of hours worked fell, but the cause may have been unusually harsh weather that canceled workdays.

Taking account of one-time hits from the weather, “the better-than-expected gain in jobs is as good a signal as any that the economy is maintaining its resilience,” TD Economics Senior Economist James Marple said in a research note.

The Fed’s hopes for a healthier labor market increased, despite the less optimistic language about the winter slowdown in economic activity. The majority of committee members predicted the jobless rate will be between 6.1 percent and 6.3 percent at year end, compared to a predicted range of 6.3 percent to 6.6 percent at the December meeting.

See related:What an interest rate increase will cost cardholders

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