Fed rate increases? Not now, but soon

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The Federal Reserve’s rate-setting committee is about to do something unusual: nothing.

The Fed’s Open Market Committee meets Tuesday, and the panel is expected to leave short-term interest rates alone. Long-term rates wouldn’t be affected, either.

The committee isn’t expected to touch its economic assessment — what some observers call the bias statement. Right now the economic assessment is neutral, meaning that the Fed believes the economy is recovering from last year’s recession, but the recovery isn’t vigorous enough to worry about inflation.

Since Jan. 3, 2001, the committee has met 13 times in scheduled meetings or by teleconference between scheduled meetings. The first 11 times, the panel cut short-term interest rates. The 13th time, it altered the economic assessment to make it more optimistic.

The exception was the meeting of Jan. 29-30 this year, when the Fed ended the streak of 11 consecutive rate cuts to keep the target overnight lending rate at 1.75 percent. That non-action was big news because it ended a year of rate cuts.

Tuesday’s expected non-action won’t be such big news. For more than a month, investors have proceeded under the assumption that the Fed wouldn’t do anything at this meeting, and Fed Chairman Alan Greenspan has encouraged that notion. Other members of the Fed have carried similar messages.

Testifying before a joint economic committee of Congress on April 17, Greenspan noted that the Fed had changed its economic assessment to neutral three weeks before. “Little, if anything, has happened since the FOMC meeting to alter that assessment,” Greenspan said.

A little over a week later, a member of the rate-setting committee said in a speech that it was too soon to tell when the economic recovery will be strong enough for the Fed to raise rates.

“As the economy gains momentum, it will be time for the Fed to shift gears, moving monetary policy from its current stance, geared toward stimulating a recovery, to a more neutral stance, geared toward sustaining a long-term expansion,” said Anthony Santomero, president of the Philadelphia Fed and a voting member of the rate-setting committee. He added that it was too soon to tell when that will happen.

That same week, another voting member of the Open Market Committee, New York Fed president William McDonough, said the panel’s duty is to “watch and wait and do what is necessary when it becomes necessary.” He said: “We have time to do whatever is necessary in tightening monetary policy so that the economic recovery will remain sustainable.”

His words didn’t sound like those of someone who was eager to raise rates.

Last year the Fed’s 11 rate cuts reduced the federal funds rate from 6.5 percent to 1.75 percent, a 40-year low. The federal funds rate is the rate banks pay one another for overnight loans, which is why it’s usually called the overnight lending rate. The Federal Reserve controls the rate indirectly by adding and subtracting cash from the banking system.

The overnight lending rate influences other interest rates, most importantly the prime rate, which is what banks charge to their best and biggest customers. The prime rate is 4.75 percent. Rates for some credit cards, auto loans and home equity products are among those based upon the prime rate.

Early this year, when it looked like the economy was recovering like gangbusters, investors and economists expected the Fed to start raising rates around now. But corporate profits haven’t been as strong as expected. The economy hasn’t pulled out of last year’s recession as swiftly as many had predicted. Turmoil in the Middle East worries investors about possible oil price shocks.

Now most investors and economists expect the Fed to keep its hands off short-term interest rates until late summer.

Futures traders at the Chicago Board of Trade have priced in a 4-percent chance that the Fed will raise the federal funds rate from 1.75 percent to 2 percent at Tuesday’s meeting.

The Fed’s next two scheduled meetings are June 25-26 and Aug. 13. Chicago futures traders have priced in just a 12-percent chance that the overnight rate will be 2 percent by the end of June. They give a 76-percent chance that the rate will be 2 percent at the end of August. That implies that most futures traders believe the Fed will leave rates alone until the Aug. 13 meeting.