US Fed maintains guidance that interest rates will stay low

The US Federal Reserve last night made no change to its guidance that rates would stay low for a "considerable time" after it stops buying assets in October, a statement that prompted dissent from two Fed officials.

The statement notes an unemployment rate that is "little changed", suggesting Fed chairwoman Janet Yellen has prioritised support for the economic recovery over the concerns of officials who worry that interest rates may need to rise early next year.

That reassuring message is likely to boost bond markets, which sold off in recent days on concerns that the Fed was about to turn more hawkish.

But the Fed’s new statement shows the building pressure for a change of guidance, with new interest rate forecasts pointing to a faster pace of rises. Instead of an interest rate of 1–1.25 per cent at the end of 2015, the Federal Open Market Committee (FOMC) now expects a rate of 1.25 –1.5 per cent.

That implies five rate rises during 2015 from the current level of 0–0.25 per cent. Given there are eight meetings in the year, the Fed would have to start raising rates by June 2015 at the latest – and raise rates at every meeting after that – to reach that level.

Richard Fisher of the Dallas Fed added his dissent to that of Charles Plosser of Philadelphia because he thought rates would need to rise earlier than the forward guidance suggests. The overall vote was 8-2.

The Fed also announced a new exit strategy for how it will go about raising interest rates when the time comes. It will announce a new target range for the federal funds rate, up from its current level of 0–0.25 per cent, and then use the interest it pays to banks on their reserves as the main tool to achieve it.

By the end of 2016 the FOMC now expects an interest rate of 2.75 – 3 per cent.

That implies a further six rate rises during 2016, a fairly rapid pace of tightening. – (Copyright The Financial Times Limited 2014)