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Fed Reserve considered likely to push interest rates up again

Tuesday, March 22, 2005

WASHINGTON -- Federal Reserve policy-makers, wanting to prevent a broader outbreak of inflation as oil prices surge, are likely to keep pushing short-term interest rates higher.

The Fed is poised to boost its key federal funds rate by one-quarter percentage point to 2.75 percent today. That would mark the seventh increase of that size since June 2004.

"I don't see any real reason why they would make any radical changes right now," said Paul Kasriel, chief economist at Northern Trust Co.

While economists consider today's expected increase a largely foregone conclusion, there's intense interest -- and mixed opinions -- on what signals, if any, Fed policy-makers may offer about the future course of rates.

The Fed, after each meeting, issues a brief statement that usually provides an explanation of a given interest rate decision as well as some thoughts on the economy. Fed watchers examine the statement for hints about future monetary policy.

"There is a lot more suspense in the tone of the statement. We are all wondering what the Fed is and isn't seeing in the economy and how that will affect interest rate policy through the end of the year," said Carl Tannenbaum, chief economist at LaSalle Bank. "It's like a little game of mental chess."

Especially of interest to economists is whether the Fed will stick with its current stance that future rate increases will be gradual. Since May 2004, the Fed's statements have said rates can rise "at a pace that is likely to be measured." Measured has come to be viewed as quarter-point bump ups.

Some economists think that language will be kept -- for now, anyway. A few believe it could be dropped at Tuesday's meeting. If the "measured" phrase were abandoned altogether, it could mean future interest rate increases might not be less predictable than they have been, economists said.

To be sure, how economic activity and inflation unfold in the months ahead will figure prominently into whether the Fed speeds up or slows down its rate-raising campaign, analysts said.

Some economists predict the Fed will follow Tuesday's expected rate increase with quarter-point boosts at both the May and June meetings, which would leave the funds rate at 3.25 percent. Then the Fed would pause and take a wait-and-see attitude toward any further moves, some economists said.

Others, however, believe the Fed will keep lifting the funds rate through much of this year, pushing the rate up to around 4 percent.

The funds rate is the interest banks charge each other on overnight loans and is the Fed's main tool for influencing the economy.

The funds rate moves in lockstep with commercial banks' prime lending rate, which is used for many short-term consumer and business loans. The prime rate, now at 5.50 percent, would climb to 5.75 percent if the Fed pushes the funds rate up by one-quarter point Tuesday.

The Fed is lifting rates as energy prices are surging again. Oil prices, which set a new record high last week, briefly skyrocketed above $57 a barrel in trading Monday. That's helping to propel gasoline prices sharply higher.

Economists said the Fed will keep a close eye on whether high energy prices damp consumer spending, the lifeblood of the economy. So far, shoppers are buying at a respectable pace. But if high energy prices make consumers and businesses more cautious, that would translate into slower economic growth, analysts said.

"Oil prices remain somewhat of a threat to the robustness of activity going forward," said Lynn Reaser, chief economist at Banc of America Capital Management.

The economy, which grew at a solid 3.8 percent annual rate in the final quarter of 2004, is expected to do as well or better in the current quarter, analysts predict. But high energy prices may pose a risk to these projections as well as to the nation's gradually improving employment climate, they warned.

Employers added 262,000 jobs in February, the most since October. Economists are hopeful payrolls will post sizable gains in the coming months, but that may not occur if energy prices continue to surge, they said.

White House spokesman Scott McClellan said high energy prices underscore the need for Congress to approve a comprehensive energy plan, as advocated by President Bush. "High energy prices are a drag on our growing economy and the president believes it's time for Congress to act," McClellan said.


On the Net

Federal Reserve: http://www.federalreserve.gov


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