Fed action seems to reinforce some economists' belief that interest rates could rise this summer

Wednesday, January 28th 2004, 12:00 am
By: News On 6

WASHINGTON (AP) _ Federal Reserve policy-makers reinforced some economists' belief that interest rates could move higher this summer, dropping an assessment that they could stay near rock-bottom levels for a ``considerable period.'' Central bank officials said the economy was expanding briskly.

The change by Federal Reserve Chairman Alan Greenspan and his colleagues came Wednesday with agreement to hold a key short-term interest rate, called the federal funds rate, at a 45-year low of 1 percent, where it has been since last June.

Since its August meeting, policy-makers had been saying they foresaw holding rates low for a ``considerable period.'' But that phrase is now gone. Instead, the Fed said it ``can be patient in removing its policy accommodation.''

Economists viewed the new language as a first step by Fed policy-makers to prepare Wall Street and Main Street for higher interest rates down the road.

Investors were jolted by the new language, interpreting it as signal that higher rates were likely to come sooner than previously expected. Stocks fell sharply in trading.

But economists offered different opinions about the timing of a possible increase in the funds rate _ the interest that banks charge each other on overnight loans and the Fed's primary lever to influence economic activity.

There seemed to be agreement among economists that there will not be a rate increase at the Fed's next meeting on March 16.

``The Federal Reserve is putting a little less pressure on the accelerator and may be coming a little closer to putting its foot on the brake,'' said Lynn Reaser, chief economist at Banc of America Capital Management.

Reaser predicts the Fed could begin to nudge up rates as early as its June 29-30 meeting and that by the end of this year, the funds rate could rise to around 2 percent.

Stuart Hoffman, chief economist at PNC Financial Services Group, agreed with that timing. At Wednesday's meeting, the Fed ``has made its first move in implementing its exit strategy from a 1 percent funds rate,'' Hoffman said. ``The door has been opened to a funds rate hike.''

Any increase in the funds rate would mean a similar boost to commercial banks' prime lending rate, currently at 4 percent, the lowest level since 1959. The prime rate is the benchmark for many short-term consumer and business loans.

Other economists, however, still don't foresee the Fed boosting rates until 2005.

``I don't think the Fed has any intention of raising rates before then,'' said Richard Yamarone, economist with Argus Research Corp.

The future course of interest rate policy in the United States will hinge in large part on whether the economy starts generating more jobs and whether inflation stays under control, economists said.

The nation's payrolls grew by a minuscule 1,000 in December, disappointing economists who had been encouraged by sharper job growth in previous months. The unemployment rate dipped to 5.7 percent, but that was mainly because thousands of prospective workers gave up looking.

The economy has lost 2.3 million jobs since President Bush took office in January 2001. The president believes a stronger economy will lead to more jobs. Democrats point to the job losses as evidence of what they say are the president's failed economic policies.

Analysts are hopeful that stronger job growth will take place later this year as businesses feel more confident in the economy and see their bottom lines improve.

``The Fed might well tighten interest rates in June if the job market improves but if it doesn't pick up then, I think Fed policy-makers are on hold through 2005,'' said Bill Cheney, chief economist at John Hancock.

Addressing the nation's employment climate, the Fed on Wednesday said ``although new hiring remains subdued, other indicators suggest an improvement in the labor market.''

In another encouraging note, the Fed said that since its last meeting in December, economic reports suggest that the economy is ``expanding briskly.''

In the third quarter of 2003, the economy grew at blistering 8.2 percent rate _the strongest performance in nearly two decades. Economists believe economic growth slowed to a rate of around 4 percent to 5 percent in the final quarter of last year, which would still be brisk. Growth in the current quarter is projected to at a rate of just over 4 percent.

For Fed policy-makers ``it will be the economy, and more importantly, the labor markets and inflation that determine when they will hike rates,'' said Joel Naroff, president of Naroff Economic Advisors.