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US Federal Reserve raises interest rates to 1% in bid to hold off inflation

Fed chair says US economy in strong health as she announces third rate rise since 2008 and the first of several expected this yearJanet Yellen discusses interest rate rise live updates

The US Federal Reserve has sought to head off rising inflation with a third interest rate rise since the 2008 financial crash and the second in three months, taking the base rate from 0.75% to 1%.

The central bank set aside concerns about the impact of higher interest rates on consumer spending to confirm analyst projections that it is prepared to increase rates several times this year to keep a lid on inflation as it rises above its 2% target level.

The Feds chair, Janet Yellen, said a wide range of indicators showed the US economy was in rude health, allowing its interest rate setting committee to push rates back towards historically normal levels. Policymakers voted nine to one to raise rates.

Speaking after the decision, Yellen said she had met Donald Trumps treasury secretary, Steven Mnuchin, a couple of times but had only been introduced to the president himself.

I fully expect to have a strong relationship with secretary Mnuchin, she said. We had good discussions about the economy, about regulatory objectives, the work of the FSOC [Financial Stability Oversight Council] global economic developments, and I look forward to continuing to work with him. She said she had had a very brief meeting with Trump and appreciated that as well.

Earlier in the day the Department of Commerce said retail sales had inched up by 0.1% in February, and that they had been better than it had previously estimated in January.

US interest rates

The Department of Labor said consumer prices were 2.7% higher in February than a year earlier. After excluding the costs of food and energy, inflation was 2.2%. A housing market index from the National Association of Home Builders also surged to its highest level since 2005.

US stock markets moved up on the news, rising 90 points in the minutes after the decision, and US crude rose 2%. The increases were modest following Yellens signals in December that interest rates were on an upward path. Investors were also caught out by Yellens bullish comments in the wake of the announcement and by projections showing that 11 of her 17 policymaking colleagues saw borrowing costs rising another three times in 2017.

Dennis de Jong, the managing director of the currency trader UFX.com, said: Given the bloating effect Donald Trumps presidency has had on US inflation, it would have been more of a surprise had Fed Chair Janet Yellen not announced a rate hike at todays Federal Reserve meeting.

Trumps grand plans for American infrastructure spending have signalled an about-turn for US economic policy after just one rate increase in ten years, weve now seen two in the space of three months, and plenty more are expected for 2017.

This all spells bad news for US borrowers, who will likely have to foot a larger bill over the coming months. With at least three more hikes on the cards by the end of the year, todays news could hit many where it hurts the most the pocket.

US CPI

Some economists argue that weak wages and productivity growth in the US will limit the Feds rate increases to a handful before reaching a peak at around 2%.

Gus Faucher, the deputy chief economist at the stockbroker PNC, said: I think the concern, in terms of why the Fed is raising rates now, is that inflation is picking up. The unemployment rate is 4.7% and thats putting upward pressure on prices.

He told the Guardian economic forces were acting against a return to interest rate levels of 4-5% seen before the 2008 crash.

We have slower labor force growth because of the ageing of the baby boomers, [and thus] slower productivity growth in terms of output per worker, he said. That has reduced the potential for long-run growth, its reduced inflationary pressures, and I think rates in the future will be lower than they have been in the past.

US retail sales

Faucher also said further interest rate rises could dent consumer spending, which has come to rely on cheap loans.

I do think eventually that higher interest rates are going to have an impact on rates for car loans, so that may be a problem for automakers. It may be a problem for big-ticket durable items, home appliances, stuff like that. There is a ceiling on those effects, though, and Faucher doesnt think they will affect home loans.

There isnt much bleed over into mortgage rates; its mostly the short-term borrowers, he said.

Fed policymakers are known to be concerned that the tax cuts and extra government spending Trump has demanded could overheat the economy and lead to a deep recession. Should that happen, the Fed will want to have substantial interest rates in place.

Read more: https://www.theguardian.com/business/2017/mar/15/us-federal-reserve-raises-interest-rates-to-1


Q&A: What will happen if the US Federal Reserve raises interest rates?

Janet Yellen, the Fed chair who has been criticised by Donald Trump, is set to raise rates for third time since financial crash

The US central bank is poised to raise interest rates for only the third time since the financial crash of 2008. With its headquarters just round the corner from the White House, the Federal Reserve and its chair, Janet Yellen, are in Donald Trumps sights.

On the campaign trail Trump said Yellen should be ashamed of the Feds low interest rate policy, and accused the bank of creating a false stock market. Trump has called for higher rates, but Yellen can not take a positive presidential reaction for granted.

The reaction of markets across the world is even less predictable. So what is the likely impact on the US and the global economy?

What is the Fed expected to do?

The Federal Reserve raised the base interest rate by a quarter of a percent in December last year and is expected to follow with a further rate rise on Wednesday. Some analysts expect a quarter-point rise, though most of the betting is now on a half point, pushing the base rate to a range of 1% to 1.25%.

Why will it raise rates?

The US economy has grown for the last 30 quarters and shows no sign of slackening off. Consumer spending is robust and the latest jobs numbers showed employment increasing and unemployment staying low.

Fathom Consulting, an economic forecaster, said spare capacity in the labour market was disappearing fast and it would not be long before wages started to rise rapidly. Wage rises push up demand, and that triggers higher prices.

The Fed has a remit to control inflation, but also to mintain high levels of employment. By raising rates, it will appear to do both.

How will consumers and corporate America react?

The Fed is betting businesses will shrug off the extra cost of borrowing, continue to invest in the US economy and create jobs.

Setting aside concerns about Brexit and a string of potentially destabilising elections on the continent, Fed policymakers have judged that the strength of the economy is enough to override a series of rate rises, possibly taking the base rate to almost 2% by the end of next year.

Consumers have embraced the Trump rhetoric of tax cuts and deregulation to continue spending, undeterred by the prospect of higher mortgage costs.

How will the market react?

Central banks like to signal their intentions, albeit in opaque language, to prevent investors being spooked. This rise was heavily trailed in recent weeks and has been priced in as a certainty by market participants in New York, London and Tokyo though some would be surprised by a half-point rise.

Turbulence could come from the foreign exchange markets if the dollar rises following a slump in the Turkish lira, Indonesian rupiah, Mexican peso or other developing world currency. More importantly, the bond markets could overreact.

Why do the bond markets matter?

Much of the world borrows money in dollars or seeks to lend to the US government and US corporations in dollars. A rise in interest rates would encourage an influx of funds into the US, pushing up the dollar relative to other countries. A rise in the Fed funds rate would also increase the cost of borrowing.

When the Fed first hinted in 2013 that it planned to stop pumping funds into the financial system, the prospect of higher borrowing costs for those holding dollar debts spooked the bond markets. Turkey and Russia were highlighted as countries with corporate sectors that expanded quickly based on heavy borrowing using dollar-denominated bonds. It was clear that much of Turkeys corporate sector could go bust if its interest bill jumped too far or fast.

Such was the strength of the reaction, Ben Bernanke, who at the time chaired the Federal Reserve, abandoned his plan. A similar reaction preceded a rate rise in December 2015, and while markets regained their composure, the extra costs imposed on Turkey and Russia hit their economies hard and arguably shored up the position of their authoritarian leaders.

Is a currency war possible?

Trump has already attacked China for artificially depressing its currency, even when Beijing was doing all it could to close the gap between the yen and the dollar. Now China is letting the yen fall and with interest rate rises in the US pushing up the dollar, the gap will widen, increasing the cost of US exports and reducing import prices.

Trump can only complain about the currency, but he could make good on threats to impose tariffs on Chinese goods, sparking a trade war.

Is there any reason to keep rates on hold?

Annual US GDP growth since the 2008 crash has averaged 2.1%. This might seem like a healthy rate, but it is the slowest recovery from recession since the second world war. Business investment remains low and productivity in the US, as elsewhere in the developed world, is growing sluggishly. To boost borrowing and demand, the Fed needs to keep credit cheap.

But Trump plans to make up for the tightening of monetary policy by cutting taxes and running up a huge budget deficit. He also plans to take his shears to corporate and consumer regulations, unleashing a surge in economic activity.

Bloomberg said investors expect three more rises before the end of the year. Fathom Consulting said there was enough momentum in the economy for rate increases of 25 basis points seven times between now and the end of next year.

Read more: https://www.theguardian.com/business/2017/mar/14/us-federal-reserve-interest-rates-janet-yellen-donald-trump


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