Rate rises idled, low in­fla­tion Fed fo­cus

Northwest Arkansas Democrat-Gazette - - BUSINESS & FARM - MARTIN CRUTSINGER

WASHINGTON — The Fed­eral Re­serve has al­ready achieved one of its two man­dates: With the U.S. un­em­ploy­ment rate at 4.4 per­cent, the Fed has essen­tially max­i­mized em­ploy­ment.

It’s the Fed’s other goal — price sta­bil­ity — that’s stayed per­sis­tently out of reach. In­fla­tion has been edg­ing fur­ther be­low the Fed’s 2 per­cent tar­get. Low in­fla­tion tends to slow con­sumer spend­ing, the U.S. econ­omy’s main fuel. Many con­sumers de­lay pur­chases if they think the same or lower price will be avail­able later.

Per­sis­tently low in­fla­tion will likely be a dis­cus­sion point when the Fed holds a pol­icy meet­ing this week. The cen­tral bank has raised its bench­mark in­ter­est rate twice this year, but no one ex­pects an­other in­crease when its meet­ing ends Wed­nes­day. And un­less in­fla­tion picks up, some an­a­lysts fore­see no fur­ther rate in­crease this year.

Fed Chair­man Janet Yellen deep­ened the un­cer­tainty ear­lier this month when she sounded less sure about her po­si­tion that a slow­down in in­fla­tion this year was be­cause of tem­po­rary fac­tors.

Yellen con­ceded that Fed of­fi­cials were puz­zled by re­cent de­vel­op­ments. Her re­marks lifted fi­nan­cial mar­kets as in­vestors in­ter­preted her words to sug­gest that the Fed might slow its pace of rate in­creases.

“In the past, Yellen was pretty con­fi­dent that in­fla­tion would come back, but that is now in doubt,” said Sung Won Sohn, eco­nom­ics pro­fes­sor at Cal­i­for­nia State Univer­sity-Chan­nel Is­lands.

Over the past 12 months, the in­fla­tion gauge the Fed mon­i­tors most closely has risen just 1.4 per­cent, ac­cord­ing to the lat­est data. That’s down from a 1.9 per­cent yearover-year in­crease in Jan­uary. In part, it’s why some econ­o­mists say they sus­pect that the Fed may be keep­ing its rate in­creases on hold, wait­ing to see whether in­fla­tion in com­ing months re­bounds from its cur­rent slow­down.

Af­ter leav­ing its key rate at a record low near zero for seven years af­ter the fi­nan­cial cri­sis be­gan in 2008, the Fed has raised it mod­estly four times — in De­cem­ber 2015, De­cem­ber 2016 and twice so far this year, in March and June. Even now, the rate re­mains his­tor­i­cally low, in a range of 1 per­cent to 1.25 per­cent.

Months ago the Fed sig­naled its readi­ness to raise rates three times this year on the as­sump­tion that it needed to be more ag­gres­sive to en­sure that con­sis­tently low un­em­ploy­ment didn’t con­trib­ute to high in­fla­tion later on.

In June, Yellen and other of­fi­cials sought to ex­plain away the un­wel­come slip in in­fla­tion as a re­sult of such one-time fac­tors as a plunge in con­sumer cell­phone charges and a dip in pre­scrip­tion drug prices.

But in de­liv­er­ing the Fed’s semi­an­nual re­port to Congress this month, Yellen ac­knowl­edged some doubt. She de­scribed in­fla­tion as a “two-edge” prob­lem, with the threat that prices could ei­ther rise too slowly or sud­denly jump if a tight job mar­ket trig­gered wage pres­sures that stoked in­fla­tion.

Yellen didn’t rule out an­other rate in­crease this year. But in­vestors have them­selves grown more un­cer­tain, with the CME Group’s closely watched gauge fore­see­ing a 47 per­cent chance of an­other rate in­crease by year’s end.

Diane Swonk, chief econ­o­mist at DS Eco­nom­ics, said she still thinks the Fed will raise rates one more time this year — in De­cem­ber — but only if her fore­cast of a re­bound in in­fla­tion comes true.

“I think we are go­ing to get to a third rate hike this year, but it will be driven by the in­fla­tion data,” she said. “There is a real de­sire on the part of the Fed to hit the pause but­ton un­til the haze clears and they can see more clearly what is hap­pen­ing.”

Mark Zandi, chief econ­o­mist at Moody’s An­a­lyt­ics, said he be­lieves the Fed will act again by De­cem­ber, in part be­cause of con­cerns that stock prices and other as­set prices have been lifted too high by in­vestors who have be­come too op­ti­mistic about how long the Fed will de­lay its tight­en­ing of credit.

“The valu­a­tions in fi­nan­cial mar­kets are very high right now,” Zandi said. “This has got to be mak­ing Fed of­fi­cials ner­vous.”

Zandi also said he thought that the Fed could pro­vide de­tails this week about its plans to start par­ing its enor­mous $4.5 tril­lion in hold­ings of Trea­sury and mort­gage bonds, which it ac­cu­mu­lated af­ter the 2008 fi­nan­cial cri­sis in a drive to ease long-term bor­row­ing rates. Some say they think the Fed will be­gin in ei­ther Septem­ber or Oc­to­ber to be­gin shrink­ing those hold­ings, a move that is ex­pected to put grad­ual up­ward pres­sure on long-term bor­row­ing rates, in­clud­ing mort­gages.

Even­tu­ally, Zandi pre­dicted, as the job mar­ket strength­ens fur­ther, the Fed will have to switch from worrying about in­fla­tion that is too low to in­fla­tion that will start to ex­ceed its 2 per­cent tar­get. He said he fore­sees three ad­di­tional Fed rate in­creases next year.

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