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Fed raises again
Central bank boosts key overnight lending rate a quarter point in third hike this year; what's next?
September 21, 2004: 4:41 PM EDT
By Mark Gongloff, CNN/Money senior writer

NEW YORK (CNN/Money) - The Federal Reserve raised a key interest rate a quarter-percentage point Tuesday in an ongoing effort to raise lending rates from the lowest levels in more than 40 years.

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The Fed also upgraded its assessment of the economy's health and said inflation had lost some of its sting, leaving itself room to take a break from rate hikes at some point, perhaps soon.

The central bank's policy-makers unanimously agreed to raise their target for the fed funds rate, an overnight lending rate that influences rates throughout the economy, to 1.75 percent from 1.5 percent.

Though it was the third such hike this year, the fed funds rate is still at a level not seen consistently since 1962. Some economists, including some Fed policy makers, believe such low rates could fuel a pickup in inflation if left in place too long.

The Fed also raised its largely symbolic discount rate, used by banks for emergency loans from the Fed, a quarter point to 2.75 percent.

Rather than raising rates to slow the economy, as the Fed does when it wants to fight inflation, some economists think the Fed's policy committee is simply trying to bring rates back to a "neutral" level.

"The committee members believe that the interest rate is too low, pointing to continuing, gradual increases in the rate," Sung Won Sohn, chief economist at Wells Fargo, wrote in a note to clients. "The central bank is reducing accommodation, not tightening monetary policy."

In the closely watched statement accompanying its release, the Fed repeated its view, first expressed on June 30, that it could probably keep raising rates at a "measured" pace.

"After moderating earlier this year partly in response to the substantial rise in energy prices, output growth appears to have regained some traction, and labor market conditions have improved modestly," the Fed wrote.

"Despite the rise in energy prices, inflation and inflation expectations have eased in recent months," the central bank added.

On balance, the language echoed recent comments by Fed Chairman Alan Greenspan and other Fed officials, painting a somewhat rosier picture of the economy than in August, after surging crude oil and gasoline prices had contributed to a slowdown.

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"The economy is neither roaring nor stalling; it's clearly out of the soft patch and moving along at a decent pace, and that's all the Fed needs right now," said Bill Cheney, chief economist at MFC Global Investment Management.

The healthier economic assessment came with a slightly more favorable outlook on inflation, however, reflecting recent reports of tame consumer price inflation and outright declines in wholesale prices in August.

Weaker inflation keeps alive the chance that the Fed could take a break from raising rates at some point.

"The statement leaves room for inaction in November if the data fail to thrive," Ian Shepherdson, chief U.S. economist at High Frequency Economics, wrote in a note to clients.

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The Fed raised a key rate a quarter-point, as expected. CNNfn's Kathleen Hays takes a closer look.

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On Wall Street, where the Fed's decision was widely expected, stock prices ticked higher after the announcement, though they later returned to their pre-Fed levels.

Treasury bond prices edged higher and the dollar fell.

For more on the Fed and rates, including how the latest rate increase affects you, click here.

The Fed's next meeting is scheduled for Nov. 10, and one measure of the market's expectations for future rate hikes, the implied yield on the fed funds futures contract traded at the Chicago Board of Trade, priced in an 81 percent chance of another quarter-point rate hike at that meeting.

Some economists note that consumer spending is still sluggish, the labor market is not yet at full strength and oil prices are still high, and they worry that the recent "soft patch," as Fed Chairman Alan Greenspan described it, is not yet over.

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In such an environment, they fear, a dogged rate-hiking campaign could slow the economy down further.

Anticipation of a slowing economy could be one reason why longer-term market interest rates, such as the yield on the 10-year Treasury note, have fallen sharply in recent weeks, even as the Fed has been busy raising short-term rates.

"This is what the market did in 1974, ahead of a slowdown in 1975, and the Fed continued to hike rates in the face of marginal data turning worse," said Robert Brusca, chief economist at Fact & Opinion Economics, an independent research firm. "I don't see where the Fed sees 'traction'."  Top of page




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