Fed raises interest rates and signals its ‘accommodative’ era is over

Federal Reserve Board Chairman Jerome Powell. Mark Wilson/Getty Images
  • The Federal Reserve on Wednesday raised its key interest rate for the third time this year and signalled one more hike in 2018, most likely in December.
  • The Fed removed language in its statement that referenced “accommodative” monetary policy, even after President Donald Trump last month complained about rising interest rates.
  • It raised its forecasts for economic growth next year.
  • Short-term borrowing costs are most affected by Fed decisions, so interest rates on things like credit cards should increase soon.

The Federal Reserve announced Wednesday, after a two-day policy meeting, that it would raise interest rates for the third time this year.

The decision, which had been widely expected, raised the federal funds rate by 25 basis points, to a range of 2% to 2.25%.

It was the eighth time the Federal Open Market Committee has raised borrowing costs since late 2015. It held rates near zero after the Great Recession to speed up the economic recovery.

Accordingly, the Fed removed language in its statement that had characterised its policy as “accommodative.” Still, Fed Chairman Jerome Powell said at a press conference that the Fed did not have a precise estimate of where accommodation ends. It maintained its forecast for three rate hikes next year, even after President Donald Trump last month complained about higher interest rates.

Short-term interest rates are most affected by Fed decisions, meaning rates on things like credit cards should rise soon after Wednesday. Mortgage rates are rising, but strong demand for housing has meant the impact is still minimal. Savers should also see their interest rates increase, though banks tend to lift these slower than they do for borrowers.

The Fed’s statement again struck a bullish tone on the economy,

“Our economy is strong,” Powell said. “Growth is running at a healthy clip, unemployment is low, the number of people working is steadily rising, and wages are up.”

Fed officials raised their forecast for gross domestic product next year by 0.1 percentage points, to 2.5%. And for the first time, they released a projection for growth in 2021, which stood at 1.8%.

Wednesday’s decision was not just about the expected rate hike, however, but what Fed officials, including Powell, had to say about the future of the US economy and interest rates.

The voting FOMC members released a new projection for where they see rates over the next two years and in the long run, known as the dot plot. Their new dot plot maintained the forecast for one more rate hike this year, most likely in December, and three in 2019, though the range of expectations widened.

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Some economists have urged the Fed to be even more patient with hiking because short-term rates could soon tip over longer-term ones, which are normally higher. The yield difference between two- and 10-year Treasurys shrank to an 11-year low of 21 basis points last week; a so-called yield-curve inversion happens when it goes negative and is used as a recession signal.

As with interest rates, the forward-looking statements on the economy were most interesting.

During Powell’s press conference, he was asked about the economic risks of a trade war. He downplayed the threat during congressional testimony in July, but Trump has since imposed tariffs on an additional $US200 billion worth of Chinese goods and threatened to impose duties that would cover half of all imports from the world’s second-largest economy.

“More than anything though, I would worry in the longer run where this is going,” Powell said. “If the end place we get to is lower tariffs, that would be good.”

He added that more protectionism would be bad for workers and the US economy.

Powell was also asked to respond to Trump’s criticism of the Fed’s rate hikes.

“We don’t consider political factors or things like that,” he said.

Here’s the full Fed statement:

Information received since the Federal Open Market Committee met in August indicates that the labour market has continued to strengthen and that economic activity has been rising at a strong rate. Job gains have been strong, on average, in recent months, and the unemployment rate has stayed low. Household spending and business fixed investment have grown strongly. On a 12-month basis, both overall inflation and inflation for items other than food and energy remain near 2 per cent. Indicators of longer-term inflation expectations are little changed, on balance.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labour market conditions, and inflation near the Committee’s symmetric 2 per cent objective over the medium term. Risks to the economic outlook appear roughly balanced.

In view of realised and expected labour market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 2 to 2-1/4 per cent.

In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realised and expected economic conditions relative to its maximum employment objective and its symmetric 2 per cent inflation objective. This assessment will take into account a wide range of information, including measures of labour market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.

Voting for the FOMC monetary policy action were: Jerome H. Powell, Chairman; John C. Williams, Vice Chairman; Thomas I. Barkin; Raphael W. Bostic; Lael Brainard; Richard H. Clarida; Esther L. George; Loretta J. Mester; and Randal K. Quarles.

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