Investors seek signals from Federal Reserve on interest rates
Washington (Ma4 17) For the Federal Reserve, patience may no longer be a virtue.
Surrounding the Fed’s policy meeting this week is the widespread expectation that it will no longer use the word patient to describe its stance on raising interest rates from record lows.
The big question is: What will that mean?
Many economists say the dropping of patient would signal that the Fed plans to start raising rates in June to reflect a steadily strengthening job market. Others foresee no rate hike before September. And a few predict no increase before year’s end at the earliest.
Complicating the decision is a surging U.S. dollar, which is keeping inflation far below the Fed’s target rate and posing a threat to U.S. corporate profits and possibly to the economy. A rate increase could send the dollar even higher.
In a statement it will issue when its two-day meeting ends Wednesday and in a news conference Chairwoman Janet Yellen will hold afterward, the Fed isn’t likely to telegraph its timetable. Yellen has said that any decision to raise rates will reflect the latest economic data and that the Fed must remain flexible.
On Monday, U.S. stocks surged as the dollar’s rally against the euro eased back.
Still, nervous investors have been selling stocks in recent weeks out of concern that a rate increase — which could slow borrowing and spending and weigh on the economy — is coming soon.
“I think the odds are better than 50-50 that the Fed … will drop the word patient at the March meeting, and that would put an initial rate hike in play, perhaps as early as the June meeting,” said David Jones, author of several books about the Fed.
The inflation factor
Historically, the Fed raises rates as the economy strengthens in order to control growth and prevent inflation from overheating. Over the last 12 months, U.S. employers have added more than 200,000 jobs every month. And unemployment has reached a seven-year low of 5.5 percent, the top of the range the Fed has said is consistent with a healthy economy.
The trouble is that the Fed isn’t meeting its other major policy goal — achieving stable inflation, which it defines as annual price increases of around 2 percent. According to the Fed’s preferred inflation gauge, prices rose just 0.2 percent over the last 12 months. In part, excessively low U.S. inflation reflects sinking energy prices and the dollar’s rising value, which lowers the prices of goods imported to the U.S.
It isn’t just inflation that remains below optimal levels. Though the job market has been strong, the overall economy has yet to regain full health. The economy slowed to a tepid 2.2 percent annual rate in the October-December quarter, and economists generally think the current quarter might be even weaker.
What’s more, pay for many workers remains stagnant, and there are 6.6 million part-timers who can’t find full-time jobs — nearly 50 percent more than in 2007, before the recession began.
For those reasons, some analysts think it would be premature to raise rates soon.
“The last thing the Fed wants to do right now is spook the markets and the economy into an even slower growth trajectory,” said Brian Bethune, an economics professor at Tufts University.
After it met in December, the Fed said for the first time that it would be “patient” about raising rates. Yellen said that meant there would be no increase at the Fed’s next two meetings. And in testimony to Congress last month, she cautioned that even when the “patient” language is dropped, it won’t necessarily signal an imminent rate hike — only that the Fed will think the economy has improved enough for it to consider a rate increase on a “meeting-by-meeting basis.”
Some economists say the Fed may tweak its policy statement this week to signal that a higher inflation outlook would be needed before any rate hike. And they expect the Fed to go further in coming months to ready investors for the inevitable.
Diane Swonk, chief economist at Mesirow Financial in Chicago, thinks the Fed will drop patient from its statement this week, but she doesn’t expect a rate hike before September. Even then, she foresees only small increases in its benchmark rate.
Sung Won Sohn, an economics professor at the Martin Smith School of Business at California State University, suggested that the Fed’s strategy in beginning to raise rates won’t be to slow the economy. Rather, he thinks the goal will be to manage the expectations of investors, some of whom weren’t even in business in 2004, the last time the Fed began raising rates.
“The Fed is just trying to send a message that the world is about to enter a new age after a long period of low interest rates to a period of rising rates,” Sohn said.