The Federal Reserve Board is preparing the US markets for higher interest rates, while reassuring them that the pace of increase will be gradual. Cliff Taylor, Economics Editor reports
The Fed's key policy-making committee made significant changes to its outlook for the economy in a statement issued after it met yesterday evening - a move interpreted by market analysts as clearly signalling a rate rise over the summer months.
Having previously warned that deflation was a greater risk than inflation, the Fed now said that price risks were balanced.
The statement did not repeat a previous commitment to be "patient" before removing what the Fed calls "policy accommodation" - or low interest rates. Last night's statement from the Federal Open Market Committee said: "At this juncture, with inflation low and resource use slack, the committee believes that policy accommodation can be removed at a pace that is likely to be measured."
Market analysts believe this indicates that the Fed's key funds rate will rise slowly from their current level of 1 per cent, the lowest since 1958. However, opinion is still divided on the likely timing of the first Fed move. Earlier expectations that the first rise in rates would be delayed until after November's presidential election and possibly into 2005 have now weakened considerably.
Most analysts now believe the first rise is likely to come over the summer months, following a string of indicators showing that the economy is picking up and some evidence of a rekindling in inflation. A recent pick-up in the jobs market, in particular, has suggested that the recovery is firmly on track, though future figures will be closely watched to see whether this can be maintained.
Last night Mr Colin Hunt, chief economist at Goodbody stockbrokers, said the debate now was whether rates would go up in June or August. A rise during the formal election campaign running from September to November was most unlikely he said, meaning the Fed would want to get the first increase in by August at the latest. Markets will now be watching Friday's April US employment figures to see if the significant improvements registered in March are repeated.
The Fed last raised official interest rates in May 2000 to a relatively lofty 6.5 per cent. With the US economic recovery gaining pace and breadth and companies reporting they are regaining the ability to make price rises stick, policy-makers have been at pains to imply they are on guard against potential inflation.
The Fed's objective is to keep prices, and wage demands, from rising so fast that they in turn push up credit costs, hurting demand and choking off growth.
Recent economic data have shown a significant pick-up in the pace of activity. US gross domestic product grew at the heartiest pace in 20 years during the nine months through March 31st - averaging a 5.5 per cent annual rate per quarter.
Although Fed chairman Mr Alan Greenspan and others have noted a lag in job growth, March saw healthy growth of 308,000 new jobs and forecasts are that the government will report on Friday the creation of another 173,000 in April. - (Additional reporting, Reuters)
