Hands-off meeting likely for Fed

At Bankrate we strive to help you make smarter financial decisions. While we adhere to strict , this post may contain references to products from our partners. Here’s an explanation for

You probably won’t pay a higher rate on your credit cards or home equity line of credit as a result of the Federal Reserve’s upcoming meeting. Emphasis on “probably.”

Bettors in the marketplace give a roughly 90 percent chance that the Fed’s Open Market Committee won’t change short-term interest rates. A week before the decision, the federal funds futures contracts at the Chicago Board of Trade were pricing in an 11 percent chance of a rate increase and an 89 percent chance that the Fed would stand pat.

Consumers would welcome a hands-off approach because of the effect on variable-rate credit cards and home equity lines of credit. Those products are tied to the prime rate, which goes up every time the Fed hikes.

The Fed’s effect on longer-term interest rates, such as those for auto loans and mortgages, is indirect and unpredictable.

17 increases still sinking in
Odds of a rate hike were deemed low after a member of the rate-setting committee said the Fed needs time to assess the cumulative impact of 17 consecutive increases over two years.

“With the lags in policy, we haven’t yet seen the full effect of our past actions,” Janet Yellen, president of the Federal Reserve Bank of San Francisco, told a chamber of commerce gathering Tuesday, Sept. 12. “These will unfold gradually over time. By pausing, we allowed ourselves more time to observe the data and more time to gauge how much, if any, additional firming is needed to pursue our dual mandate.”

Yellen was talking about the Fed’s Aug. 8 pause, but she didn’t seem eager to raise rates at the September meeting, either. Yellen is considered an inflation dove: cautious about raising rates to combat inflation, because higher rates slow down job growth and wages.

Farther down the spectrum are inflation hawks, who are quicker to resort to raising rates. William Poole, president of the Federal Reserve Bank of St. Louis, is hawkish on inflation. He says it’s wrong to cast the Fed’s decision as a choice between keeping inflation under control and achieving full employment.

There is general agreement, Poole says, “that, in the long run, monetary policy cannot achieve a trade-off between inflation and employment.” In Poole’s opinion, stable prices contribute to an environment that encourages full employment, so fighting inflation is “Job One.”

This talk of inflation hawks and doves obscures the fact that their differences are small — they agree on goals and differ over tactics and timing. Most decisions of the rate-setting committee are unanimous. The August meeting was an exception. Jeffrey Lacker, president of the Federal Reserve Bank of Richmond, voted to raise the federal funds rate another quarter-point.

How the Fed works
Eight times a year, or roughly every six weeks, the Open Market Committee meets to set a target for the federal funds rate. That’s the rate that member banks charge one another for overnight loans to cover reserves. The federal funds rate, also called the overnight rate, is 5.25 percent.

In the last half of 2003 and the first half of 2004, the federal funds rate stood at a decades-low rate of 1 percent as the Fed stimulated a sluggish economy. At the time, Fed officials worried that there was a small chance that deflation could take hold — a disastrous state in which overall prices fall, leading to recession and then depression. The deflation danger passed and the Fed raised the federal funds rate 17 times in a row, a quarter of a percentage point at the time.

Every time the Fed raised the federal funds rate a quarter-point, the prime rate went up by the same magnitude. Many people with equity lines of credit saw their rates more than double, from 4 percent to 8.25 percent. Rates on variable-rate cards went up, too.

The central bank finally
left the federal funds rate alone at its meeting in early August.