Federal Reserve raises US interest rates despite trade war concerns

The Federal Reserve has raised the US short-term interest rate signalling it will go ahead with plans to tighten policy despite concerns of a trade war. The Fed will tighten monetary policy as the unemployment heads towards record lows and wage growth accelerates at its quickest pace in nine years.

Source: Financial Times

The Federal Reserve raised US short-term interest rates for a third time this year and signalled it will forge ahead with plans to tighten policy, even as central bankers face White House pressure for low borrowing costs as well as concerns over a trade war.

The Federal Open Market Committee boosted the target range for its key rate by another quarter percentage point to 2-2.25 per cent, in the eighth rate rise of the current cycle, while teeing up a further increase in December.

The central bank dropped previous assurances that policy was “accommodative” as it reduces the economic stimulus it put in place during the crisis. Median forecasts for interest rates released by the Fed’s policymakers pointed to one more rise this year, followed by three increases in 2019 and another in 2020 — in line with previous expectations.

In a press conference, Jay Powell, Fed chairman, struck an upbeat tone about US economic performance. “Our economy is strong, growth is running at a healthy clip, unemployment is low, the number of people working is rising steadily, and wages are up,” he said. “Inflation is low and stable. All of these are very good signs.”

The Fed is on course for tighter monetary policy as unemployment heads toward multi-decade lows, wage growth accelerates to its quickest pace in nine years, and estimates point to annualized third-quarter growth of more than 4 per cent.

President Donald Trump’s decision this month to impose tariffs on another $200bn of Chinese imports has dented confidence among some US businesses, but the Fed made no reference to trade worries in its post-meeting statement.

Instead, it gave a bullish update on the economy, which it expects to grow by more than 3 per cent this year, saying growth and job gains have been strong, as have spending and corporate investment. Risks to the outlook remain “roughly balanced”, the Fed said.

The prospect of rates reaching neutral levels — those that neither boost the economy nor hold it back — has opened up a debate over the extent to which officials want to clamp down on the economy by increasing them further.

The median of the latest forecasts suggests the middle of the Fed’s target range will peak at 3.4 per cent in 2020, remaining at that level in 2021. That is above the Fed’s estimate for the longer-run level of the rate, which edged up to 3 per cent. Mr. Powell said it was “very possible” that rates would be moved into a restrictive territory, but he stressed the uncertainties over estimates of where neutral rates lie.

The Fed’s decision sent Treasury yields tumbling in the New York afternoon, as investor expectations that it would increase its projected pace of rate increases following strong wage growth in August failed to materialize. The benchmark 10-year Treasury yield fell 5 basis points to 3.05 per cent, dragging down interest-rate sensitive financial stocks, with the broader S&P 500 falling 0.3 per cent.

The Fed is attempting to untangle the implications of higher tariffs for both inflation and growth. The central bank’s latest median economic forecasts, unveiled with its rate move on Wednesday, do not point to any obvious damage.

The US is now seen as growing by 3.1 per cent this year, up from 2.8 per cent previously, before the expansion eases to 2.5 per cent in 2019 and 2 per cent in 2020 — slightly faster than its estimated long-run pace of 1.8 per cent.

Fed policymakers projected core inflation will rise to a median 2.1 per cent next year, unchanged from the previous estimate, and continue to slightly overshoot the central bank’s target as it remains at the same level in 2020 and 2021.

The latest median projection showed the Fed now expects the jobless rate to fall to 3.5 per cent, also in line with prior forecasts. That would be well below the Fed’s 4.5 per cent estimate of the longer-run rate of unemployment.

The decision to increase interest rates was endorsed by all of the current members of the FOMC, including Richard Clarida, the central bank’s newly installed vice-chairman.