The Fed raised the benchmark federal funds rate, locked near zero since the Great Recession, by a quarter point to 0.25-0.50 percent, saying the economy is growing at a moderate pace and should accelerate next year.
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Over its history, the Federal Reserve has used its rate-setting-ability to try to stabilize the economic situation of the country.
But if the Fed is wrong, then a tepid US recovery – and the economic rebound after the 2007-09 financial crisis and recession has been consistently anemic – will be made weaker by higher interest rates. It was the first rate increase by the Fed since 2006. It means that when the Fed raises that rate by a quarter point, as it did Wednesday, it will not slam the brakes on the global economy.
Those enormous holdings will complicate the Fed’s efforts to raise its target rate.
The thinking seems to be that both the markets and the economy can stand to have the bandage ripped off now, so the Fed might as well do it before things change. China has settled down somewhat after becoming the epicenter of global market turmoil in August, but concerns remain that the Fed’s decision could reignite volatility by upsetting the dollar-yuan exchange rate.
The world was a rather different place the last time the Federal Reserve raised interest rates. “We’ll continue to monitor the market to make sure we stay competitive”, a JPMorgan Chase spokesman said.
She told a news conference that the central bank had put itself in a position to nurture the 6 1/2-year-old expansion by raising rates a bit now to avoid having to increase them a lot later.
“While inflation is clearly way off the Bank’s 2% target, the Monetary Policy Committee must look past this temporary period of low inflation and act soon”.
Equity prices rallied in response, with the Standard & Poor’s 500 Index of USA stocks rising 1.5 percent to 2,073.07 in NY.
And yet there are real questions about whether even this tiny rate increase, the first in almost a decade, is too hasty.
Arguably the Fed’s economic forecasts for coming years are less than upbeat, so by implication the bar for the gradual thightening is set relatively low. Financial conditions have already tightened, with expectations of hikes one of the factors behind the large US Dollar appreciation since mid-2014.
The Fed argues that United States businesses can continue to invest and hire with a modestly tighter dollar policy.
Calls for the Bank of England to start raising rates in the United Kingdom swiftly followed the announcement.
There have been encouraging signs for the USA economy in recent months, with unemployment falling to 5% from a peak of 10% in 2009 and inflation beginning to creep up, with figures showing a bigger-than-expected rise in prices of 0.5% in the year to November.
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“The demand for Treasurys has mushroomed”, said Carl Tannenbaum, chief economist at Northern Trust.
