Fed inches up key interest rate, projects more hikes in 2017

WASHINGTON — Federal Reserve officials on Wednesday inched up a key short-term interest rate for the first time in a year and projected three more small hikes in 2017 as improving economic conditions combined with anticipation of stimulative policies from the incoming Trump administration that could fuel inflation.

Central bank monetary policymakers, as expected, voted unanimously to increase the target range for the federal funds rate by 0.25 percentage points.

It was just the second increase in more than a decade and another small signal that the economy is returning to normal after the trauma of the Great Recession.

“This single quarter-point move in interest rates will go largely unnoticed at the household level, but coupled with last year’s hike, the cumulative effect could mount quickly if the Fed quickens the pace of rate hikes in 2017,” said Greg McBride, chief financial analyst at Bankrate.com.

Since election day, the Dow Jones industrial average has jumped about 8 percent to record highs. And in a sign investors are expecting stronger economic growth and rising inflation, yields on the benchmark 10-year U.S. Treasury note also have risen to their highest levels in more than a year.

The federal funds rate applies to short-term lending between banks, but it has become a benchmark for consumer and business loan rates. The rate still is extremely low by historical standards — after Wednesday’s hike it will be between 0.5 percent and 0.75 percent. It was above 5 percent as recently as 2007.

But the rate is slowly moving up from the unprecedented near-zero level at which the Fed held it for seven years to try to stimulate the economy during and after the Great Recession.

In a statement after a two-day meeting, members of the Fed’s Federal Open Market Commission were more upbeat about the U.S. economy than after their November meeting.

The economy has been “expanding at a moderate pace since midyear,” with “solid” job gains and “moderately” rising household spending, although fixed investment by businesses “has remained soft,” the statement said.

The economic improvements have led market-based measures of inflation to increase “considerably,” although the rate of price growth remains low, the committee said.

The Fed generally raises the rate to prevent the economy from causing prices to rise too much.

Fed Chair Janet Yellen, who along with other central bank policymakers signaled in recent weeks that a rate hike was coming this month, was to discuss the decision at a news conference later Wednesday.

Fed officials stressed they continued to believe that “economic conditions will evolve in a manner that will warrant only gradual increases” in the rate, the statement said.

They increased their forecasts for quarter-point rate hikes over the next three years by just one. Fed policymakers slightly upgraded their projections for economic growth to 1.9 percent for this year and 2.1 percent next year, compared to their last forecast in September.

They also indicated the economy is just about at full employment, projecting the unemployment rate would inch down to 4.5 percent next year and stay there through 2019. The unemployment rate was 4.6 percent last month, the lowest since 2007.

With a more optimistic view of economic growth, and a projection that the inflation rate will hit 1.9 percent next year, Fed policymakers increased their expectations for rate hikes next year.

The median projection is for three quarter-percentage-point increases in 2017, up from a forecast of two in September. They also indicated a similar, slow-but-steady rise in the rate the following two years, with the federal funds rate hitting 2.9 percent at the end of 2019. That was up from a 2.6 percent forecast in September.

The Fed’s mandate is to keep prices stable and maximize employment. The central bank’s annual inflation target is 2 percent, which would be achieved in 2018, according to the forecast Fed officials released Wednesday.

It was almost exactly a year ago that the Fed inched up its benchmark interest rate for the first time since 2006. The rate in June 2006 was increased to 5.25 percent, but a little more than a year later the Fed began lowering it in response to the economic slowdown that led to the Great Recession.

The rate was dropped to an unprecedented low — technically in a range between zero and 0.25 percent — in December 2008 in response to the financial crisis and stayed there for seven years.

When Fed officials nudged the rate range up by a quarter of a percentage point a year ago, they indicated four more small hikes were coming in 2016.

But the year began with financial market turmoil triggered by fears of a global economic slowdown. After that abated, uncertainty arose in financial markets, first because of the British vote on leaving the European Union and then surrounding the U.S. presidential election.

Those factors led the Fed to hold off on any more rate hikes.

During the final months of the campaign, President-elect Donald Trump accused Yellen of keeping the rate “artificially low” to help fellow Democrats President Obama and presidential nominee Hillary Clinton.

“I think she is very political and to a certain extent, I think she should be ashamed of herself,” Trump said of Yellen on CNBC in September.

Historically, the independent Fed’s desire to appear nonpartisan has meant it rarely increases the rate in the weeks before a presidential election.

But with economic growth rebounding after a weak first half of the year and the labor market continuing to improve, the Fed seemed poised for a rate hike after the election. The victory by Trump — who has promised corporate tax cuts, reduced regulation, and new spending on defense and infrastructure — led to a financial market rally.

Mortgage rates and bond yields have jumped since election day with Trump’s policy plans fueling expectations of greater inflation, which a Fed rate hike would help counter.

The average interest rate on a standard 30-year mortgage jumped from 3.54 percent the week before the election to 4.13 percent at the end of last week, according to government-backed mortgage buyer Freddie Mac.

In bonds, the yield on the 10-year Treasury note has climbed from 1.57 percent on Sept. 1 to 2.44 percent on Wednesday.

Investors were expecting a Fed rate hike Wednesday, with the probability estimated at 95 percent before the meeting, according to a closely watched barometer by the CME Group futures exchange.

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